2016 NYU Tax Policy Colloquium

The time is now drawing near(er) - January 19, or just under 7 weeks away - when I'll be co-leading my/the twenty-first NYU Tax Policy Colloquium.  My co-convenor will be Chris Sanchirico of the University of Pennsylvania Law School.  The following is our speaker list; I'll update it at some point soon with tentative paper titles or topics.

SCHEDULE FOR 2016 NYU TAX POLICY COLLOQUIUM

(All sessions meet on Tuesdays from 4:00 - 5:50 pm in Vanderbilt 208, NYU Law School)

1.  January 19 – Eric Talley, Columbia Law School.

2.  January 26 – Michael Simkovic, Seton Hall Law School.

3.  February 2 - Lucy Martin, University of North Carolina at Chapel Hill, Department of Political Science.

4.  February 9 – Donald Marron, Urban Institute.

5.  February 23 – Reuven Avi-Yonah, University of Michigan Law School.

6.  March 1 – Kevin Markle, University of Iowa Business School.

7.  March 8 – Theodore Seto, Loyola Law School, Los Angeles.

8.  March 22 – James Kwak, University of Connecticut School of Law.

9.  March 29 – Miranda Stewart, Australian National University.

10.  April 5 – Richard Prisinzano, U.S. Treasury Department, and Danny Yagan, University of California at Berkeley Economics Department.

11.  April 12 – Lily Kahng, Seattle University School of Law.

12.  April 19 – James Alm, Tulane Economics Department.

13.  April 26 – Jane Gravelle, Congressional Research Service.

14.  May 3 – Monica Prasad, Northwestern University Department of Sociology.

Hilarious vitriol

I've always loved Dylan's Leopard Skin Pillbox Hat from Blonde on Blonde - outrageous, wildly self-confident, absurdist electric blues that perhaps could only be written by someone then-confident that he was "on the side that's winning."

But the much faster, intentionally sillier version from the recent Cutting Edge reissue is also fantastic, maybe even better (!?) despite (or partly because of?) jokey sound effects that were discarded in the final version.

Three talks I gave at the NTA meeting last week

As mentioned earlier, I was at the National Tax Association's 108th annual meeting last Friday and Saturday morning, and gave 3 talks using PowerPoint slides. Here are pdf versions of the slides.

First, here is what I used to discuss my paper, The Crossroads Versus the Seesaw: Getting a "Fix" on Recent International Tax Policy Developments.

Second, here is what I used to discuss papers by David Kamin and Alan Auerbach addressing long-term fiscal uncertainty.

And finally, here is what I used to discuss a state and local tax paper by David Gamage and Darien Shanske, and an international tax paper by Itai Grinberg.

I liked all the papers, and found all of them interesting. Links for some or all of them may be available elsewhere on the interwebs (and I do provide the paper titles in my slides).

Inversions, ethics, and national welfare

Today's NYT reports that, in phone calls to lawmakers and Obama Administration officials defending the Allergan deal, Pfizer's chief has been arguing that the deal, by significantly reducing the company's tax obligations, will "give it more cash that it could invest in the United States and ultimately add jobs."

Unless he is parsing his words awfully carefully via the distinction between "could" and "will" add more U.S. jobs, this is almost certainly false. Despite all the cash that they've stashed abroad and don't want to bring home (at least directly) for tax reasons, I very seriously doubt that Pfizer is cash-constrained with respect to U.S. investments that it would like to make.

The only sense in which the suggestion that Pfizer may invest more in the U.S. post-inversion (possibly adding jobs - which is not to say that overall U.S. employment or wages would be higher than otherwise) is as follows. If Pfizer's enhanced capacity, post-inversion, to strip profits out of the U.S. through intra-company financial transactions lowers the effective tax rate that they anticipate facing on marginal U.S. investment, this  would increase the company's incentive to engage in economic activity in the U.S. But on the other hand, it's possible that some or all of their increased U.S. investment (if any) would come at the expense of investment by purely domestic companies that can't use Pfizer's cross-border tax planning techniques to lower their U.S. tax burdens.

Pfizer, obviously, is doing what's good for Pfizer - be it the management (and/)or the shareholders. Note, however, that these two groups' incentives are not necessarily the same. For example, managers may like larger empires, or over-paying for a  chance to boost accounting earnings per share, and may not mind, to the same extent as the shareholders, causing gain recognition at the shareholder level. It's therefore interesting that, according to the Times article, both Pfizer's and Allergan's stock prices fell upon announcement of the deal.

A natural feature of the political economy landscape of these public deals is that politicians denounce what's happening. Again per the NYT article, Donald Trump is only blaming "politicians," but President Obama has previously called such deals "unpatriotic." (Hillary Clinton is quoted as saying just that it shows we need to change the rules.)

People like me are expected to scoff, and to a degree I do, about criticizing company officials for acting on the incentives that the system actually gives them. It doesn't come as a surprise that companies will invert if this gives them the opportunity to reduce their U.S. tax bills. In that sense, the only potential ethical problems that I would see in this general area are (a) any pursuit of managerial self-interest at the expense of their duty to benefit shareholders, and (b) any effort to go beyond what the law, as correctly interpreted, actually permits, counting on deception or the "audit lottery" (not likely to be a factor here) to get away with results that aren't actually permissible.

That said, I wouldn't feel great about myself if I spent my time, and such expertise as I have in tax practice, working on deals like this for high pay, even if the deals clearly were (or could be made) legally valid. It's not how I'd want to spend my life, and I might feel embarrassed telling people about it (or defensive if they viewed it negatively). But that's a personal choice - and one that, who knows, I might have made differently had my opportunity set 30 years ago been different - and I don't insist on it for everyone else.

Also, just because I myself might view it as a bit naive to cast the issue in terms of the "patriotism" of Pfizer's (Scottish-born) CEO doesn't mean that politicians who favor legislative action to discourage inversions shouldn't be saying it. Political debate is often, on all sides, expressed in spurious or at least simplistically moralizing terms to increase its salience and political appeal to a public that, in effect, is watching (or not watching) from the bleachers eight miles away. So an effort to change the applicable rules in ways that I might support inevitably is going to be cast rhetorically in these terms. Needless to say, there is certainly plenty of political rhetoric that is far worse being issued every single day in the 2016 presidential campaign.

Pfizer inversion into Allergan

If I am getting my back-of-the-envelope numbers right, Pfizer is paying the Allergan shareholders about $40 billion more than the market cap for Allegan's shares.

The NYT article from which I deduce this also says that the companies predict annual cost savings of $2 billion per year over the first 3 years. At least if one discounts for managerial incentives to high-ball this number, it clearly leaves a lot of value to be realized from the anticipated U.S. tax savings. (Plus, why should all the business and tax synergies inure to Allergan shareholders, rather than being split?)

The Times article says that Pfizer has $74 billion in offshore earnings. If this money was associated with zero foreign tax credits (from its being in tax havens), and if we apply the Altshuler-Grubert estimate that profitable U.S. companies lose about 7% a year from game-playing to avoid repatriating foreign earnings, one can certainly start to see some of the extra value being made back, at least if they anticipate being able to get around the Treasury's recently-issued anti-"hopscotch" regulations.

Most of the rest of the extra value, if Pfizer is not over-paying, would presumably come from anticipated greater ease in the use of intra-group debt to strip taxable income out of the U.S. on the company's U.S. operations.

The Treasury has just announced a new set of anti-inversion rules, issued of course with Pfizer in their front-view mirror. Obviously they weren't able to stop this deal, assuming it goes through. But whatever the Treasury does (or not) on the anti-inversion front, with or without legislation that would enable them to go further, it is clear that U,S. rules must respond substantively to the incentives that trigger these deals, not just by trying to slam shut the barn door before all the horses get out.

This does not necessarily mean lowering the U.S. marginal tax rate for corporate income. (Whether or not to do that should depend mainly on separate considerations.) After all, even inverted companies are still taxable in the U.S. on their U.S. operations. And a 1986-style rate cut plus base-broadening that left average tax rates on U.S. corporate operations about the same as previously would matter only insofar as tax planning focused on marginal rather than average tax rates.

It also doesn't necessarily mean that the U.S. should adopt territorial rules. (Again, this is really an independent question.) Among other points - and I won't repeat here my general analysis of why the "worldwide versus territorial" framework is unhelpful - the reasons for inverting are more particular than not wanting one's foreign operations subject to home country tax.

More specifically, I would focus on two steps to reduce the incentive to invert, both presumably requiring legislation. The first is imposing deemed repatriation treatment on U.S. companies with high unrepatriated foreign earnings. This could specifically be a tax consequence of inverting, and/or could simply be imposed without regard to such transactions.

Second, I would strengthen residence-neutral anti-earnings stripping rules that address the use of intra-group financial flows to strip profits out of the U.S. By residence-neutral, I mean other than through our controlled foreign corporations or CFC rules (aka subpart F), which U.S. operating companies can avoid by transacting with affiliated parties that are not their subsidiaries. At a minimum, the earnings-stripping rule of Internal Revenue Code section 163(j) could be made more rigorous. But I would also want to look at rules that look at debt and other internal financing for an entire global group, whether it has a U.S. parent or not. Both Germany and the U.K., I gather, have rules of this kind that would likely be worth examining in this regard.

On the road again

I'm currently en route back to NYC from the NTA Annual Meeting. I decided to go by Acela since airports can be so unpleasant. Using the Acela between New York and Boston isn't quite as much of a no-brainer as doing so between New York and Washington, because the trip is an hour longer, but perhaps still marginally worth it, especially what with free Wifi on board Acela trains these days.

Since I used the Boston Back Bay station, closest to the conference hotel, this did give me the delight of spending almost an hour in an unheated, open-air station, just what one wants in upper New England at this time of year.  But then again each Acela station seems to have some angles one needs to know about when using them.

For example, in Washington they post the tracks for each train well in advance, so people start lining up for the Acelas at least 45 minutes early. By contrast, at Penn Station in New York they deliberately don't tell you until the train is in the station and ready to board. So everyone mills around in NYC trying to figure out what the track will be, so they can be near the front of the line (admittedly a bit of a mania for me, even more so of course in airports where you're worried about the limited overhead space).

I'm always convinced that the people who use Acela more regularly than I do will be better at reading the cues, so I try to keep my eyes open and use the oldest social media form of all (aka, talking to people you see standing near you).  They change the tracks around so that the regulars won't know for sure. But you can watch the redcaps (except you don't want to line up for the Washington train if you're heading to Boston), ask people who are exiting the trains, and compare notes with the regulars. This time around I got to cheat - someone in first class had been told by the station people which track it was. I told her she should sell the information and this would pay for the cost difference between business class and first class. (I don't entirely understand, by the way, why people bother to get first class on the Acelas - doesn't seem to have as much payoff as in the intensely hierarchical airline setting.)

OK, onto the sessions a bit. I will post the slides for my 3 talks (one on my own paper, two on a total of four papers by friends in the biz) once I'm back at my office and can create a link on the NYU website. Because my time at the conference was shortened by teaching obligations on Thursday, plus also a couple of scheduling quirks at the conference, I didn't get to attend any panels at which papers were presented, with the exception of those where I was a participant. I skipped a big-data session that the organizers intended for everyone - maybe a good idea, I suppose, but certainly not as interesting to me as hearing 3 or 4 papers that I had gotten to choose among 8 or 9 alternatives. I also missed Alan Auerbach's presidential address (I suggested that he should pattern it after Nixon presidential speeches, since we are both among Nixon's diminishing stock of still-living "fans" in the ironic sense).  And I missed a lunch talk, I believe by Jim Poterba, that I would have expected to be quite interesting.

I did get to hear a lunch talk by Martin Feldstein, addressing why he thinks we should change tax policy in the ways that he thinks we should change it. The problem was, this was a speech that he could have (and probably has, on multiple occasions) delivered at a National Bankers Association conference or some such venue. Everyone in the room knew too much about many or all of the topics that he was addressing in abbreviated broad-brush overview for the things that he said, whether one agrees with them or not, to be particularly interesting.  Too bad he didn't tailor the talk to us more, but then again we all (me too) have time tradeoffs to think about.

The session honoring Bill Andrews had some nice highlights, but as I'm feeling grumpy I'll just say that it possibly, at times, could have done just a bit more than it did to (a) personalize the occasion to the honoree, and (b) explain in detail, to the (mainly) economists in the audience, just why this older-generation law professor, whom not all of them know much about, richly deserves this honor. Without meaning to slight any of the other presenters, I will say that David Weisbach did a great job of explaining just exactly what Bill contributed to the income versus consumption tax debate (within the historical context of earlier writers such as Nicholas Kaldor), and why Bill's contributions were extremely important and influential, even if not everyone remembers today what his role was in creating what is now general knowledge in at least some circles.

One nice thing about the NTA these days is the extent to which younger-generation (by my standards) tax law professors have adopted it as a regular venue.  It's become a significant setting both for internal networking within the tax law professoriate, and for their meeting and interacting with economists who have overlapping interests. Achieving this was a goal of the NTA leadership some years ago, and they have succeeded beyond expectations (or at least mine). I'd like to think I helped in this process, if only to the same degree as the mythical old lady who spits in the ocean, when it is getting a bit low, and explains what she has done by saying "Every little bit helps."

Lastly, just a quick follow-up to the comment in my previous post that this was almost my last out-of-town conference, etc., appearance of the year.  I was about to rush off to class (and then travel to Boston) when I put up the previous post, and all I meant to say was that I will be participating in an AEI panel on OECD-BEPS on December 18, as further described here.

My almost-last work-related road trip of the year

I've been going to out-of-town talks and conferences a lot this semester, and this week is no exception. This morning, the National Tax Association's Annual Meeting started in Boston. I am missing today's festivities because I have a class this afternoon. But in the evening I will be heading up there, as I'm scheduled to appear on two panels tomorrow and one more on Saturday morning.

Tomorrow at 8:30 am, I'll be presenting my recent paper, "The Crossroads and the Seesaw: Getting a 'Fix' on Recent International Tax Policy Developments," on an International Corporate Tax Policy panel that will also feature papers by Wei Cui, Jennifer Gravelle, and Harry Grubert-Rosanne Altshuler. Steve Shay will comment on my paper.

Then at 10 am, at a panel called Policymaking in the Face of Uncertainty, I will be commenting on the following 2 papers: (1) David Kamin, "In Good Times and Bad: Designing Legislation That Responds to Fiscal Uncertainty," and (2) Alan Auerbach, "Fiscal Uncertainty and How to Deal With It."

On Saturday at 8:30 am, at a panel called Fiscal Federalism, Multilateralism, and Tax Law Design, I'll be commenting on the following 2 papers: (1) David Gamage and Darien Shanske, "Fiscal Federalism from the Subnational Government Perspective: Tax Reform for the U.S. States," and (2) Itai Grinberg, "The New International Tax Diplomacy."

Certainly a diverse set of topics, if I do say so myself.  I have PowerPoint slides for all 3 of my talks, and will plan to post them here early next week.

Also at the NTA Conference, on Friday afternoon, there will be a session honoring the great Harvard law professor, retired by now of course, Bill Andrews.  This is a much-deserved honor.

I first met Bill in fall 1986, when I was at the University of Chicago Law School for a day of job interviews that culminated in my being hired there. (Luckily for my state of mind going into these interviews, I didn't learn until the following year that being interviewed at the U of C tended to mean something like a 10% chance of actually getting an offer.) On the plane from Washington, where I lived at the time, as I headed to the Chicago interview, I read Bill's classic article, Personal Deductions in an Ideal Income Tax. I didn't realize that he was visiting at Chicago that semester - I was just trying to expand my tax academic horizons, which at the time were a bit limited, and a colleague at the Joint Committee on Taxation had praised the article to me.

Quite a surprise to then meet him at Chicago, where (as a neophyte) I didn't have much more to say about it than that I had found it very interesting.  But it wasn't long before I knew a whole more about Bill's great contributions. He was also, as it happens, the third-ever speaker at the NYU Tax Policy Colloquium (in January 1996), where he very illuminatingly discussed the new view of corporate dividend taxation (also the topic of a really great short commentary that he wrote in this volume, which honors the work of David Bradford).

It will be great to see Bill again, and to see his work honored at the NTA.

More shortly on why I am calling the NTA session my almost-last work-related road trip of the year.

Who are these guys?

Butch Cassidy and the Sundance Kid led the Hole-in-the-Wall Gang, which knocked over banks.

In my house we have the Hole-in-the-Head Gang (Gary and Sylvester). They knock over garbage cans.

Paper presentation at McGill Law School

Yesterday, as noted by the Tax Prof Blog, I was in Montreal, at McGill Law School, presenting my recent international tax policy article that offers a kind of sequel or follow-up to my international tax book.

For scheduling reasons related to my teaching schedule here at NYU, I ended up giving the talk at a special session (rather than in their usual Tax Policy time slot). with students in attendance from several different tax classes at McGill, including those in Tax I who had not yet encountered even Canadian, much less U.S., international tax law or policy. So I ended up giving a kind of general lecture on U.S. and other international tax law and policy, rather than mainly focusing on the new article. This was reasonably fun (for them too, I hope), albeit, given my NYU teaching schedule, my second straight day of giving a 3-hour lecture.

I have revised slides regarding the article, but as I will be presenting it at the National Tax Association Annual Meeting next week, I will wait until the week after that to post them here.  At that point, I'll probably also post slides that I am working on for my 2 discussant slots at NTA: one discussing papers by Alan Auerbach and David Kamin, and the other discussing papers by David Gamage and Itai Grinberg.

What do real chefs do?

My guess is, they wear gloves.

Last night I made a fish stew, which I thought came out well if I do say so myself.  But I finely diced a habanero pepper to give the sauce a bit of kick. So far so good. But then, when I took out my contact lenses at the end of the day, the hot pepper residue that apparently remained on my fingers made my eyes burn horribly.  Same problem this morning, even after using such Internet-derived remedies as strong dish soap, rubbing alcohol, milk, and baking powder. (So I apparently will be wearing glasses today.) Only effect of trying all these remedies: now my finger tips are burning.

I've heard of paying a price for one's art (not to over-claim with regard to the fish stew or my general kitchen skills), but this one appears a bit steep.

Revised paper posted on SSRN

I have uploaded onto SSRN a slight revision of my previously posted paper, The Two Faces of the Single Tax Principle, to reflect comments that I received at the Brooklyn conference on October 23.  The new version is available here.  The main change is that I am now more bullish about the view the bilateral tax treaty compatibility of the so-called "option Z" approach to taxing foreign source income that I discuss in the paper.

If Noah Syndegaard were like Jeb Bush and vice versa ...

Syndegaard would have telegraphed through the press that the first pitch was going be high and tight, and the second one a diving curveball on the outside corner. Then, when the game started, he would have missed over the plate, leading to a triple off the top of the wall, and followed it by bouncing a wild pitch to the second batter, scoring the run.

Bush meanwhile would have kept his plans to himself, startled Rubio at the debate, and set him back on his heels for the rest of the evening.

Syndegaard (after the game): "That's my plate out there, not theirs."

Also: "I just didn't want him getting too comfortable. If they have a problem with me throwing inside, they can meet me 60 feet, 6 inches away."

The Royals afterwards: "Waaaaa!!"

All these quotes are courtesy of Metsblog, although the Royals one is a composite / slight paraphrase.

Now, deliberately beaning a batter - as Clemens did to Piazza - is out of bounds like the Utley slide. Syndegaard would have thrown behind the guy's head - the Clemens MO - had he shared the ugly and vicious Clemens goal. But if the Royals think that throwing high and tight, when hitters have been leaning out over the plate, is anything but totally standard baseball, then they've been watching some other sport than the one I watch (and probably not watching their own pitchers).

UPDATE: Then again, perhaps Syndegaard's last pitch (discussed here) merits more attention than his first.

(After Game 4) - Grudging props to the Royals, what a frustrating team to play. They turn MLB back into a little league game, in which every soft ground ball or flare they hit becomes an adventure.

(After Game 5) - I'm certainly glad I went to sleep after the 7th inning. Easier to get the bad news this morning than watch it unfold in real time.

A for audacity

Ted Cruz has apparently proposed a new tax reform plan that would create a two-bracket income tax for individuals, with a $36,000 exemption (or zero bracket) amount and a 10% rate above that - along with a $25,000 tax-free savings account, no payroll tax, no corporate income tax or estate tax or alternative minimum tax or Obamacare tax, etcetera.  It would be accompanied by a 16% VAT.

Obviously, the revenue loss under this plan, using reasonable rather than insane estimating assumptions, would be absolutely staggering. (We really would become Greece, or at least Kansas.) But the truly audacious, or should I say brilliant, aspect of this, as a marketing matter, is that he calls the VAT a "16% business flat tax." So it almost seems as if "business" is paying tax at a higher rate than "individuals" - if you don't realize that the business tax is actually a VAT, which would rather change the optics.

UPDATE: In fairness, I should note that, leaving aside the arguably misleading verbal description, there's nothing unprecedented (in terms of proposals, including those by academics) about Cruz's putting a VAT in place of corporate income taxation. And every announced tax plan from a Republican candidate is both extremely regressive at the top and wildly fiscally irresponsible.

First-year reading groups at NYU Law School

Last year at NYU we started having first-year reading groups. Professors could volunteer, and first-year students could sign up for, small groups that would meet for a couple of hours on four evenings, preferably at the professor's home. I believe we adopted the idea from other schools. The idea is to build connections, bring newcomers inside the community, etcetera.

Last year I interpreted "reading group" a bit too literally, and thus had as my topic Thomas Piketty's Capital in the 21st Century. This had the downside of making the people who signed up commit to reading an 800-page book across four widely separated meetings. It also seemed to suggest having academic discussions that touched on background economic literature, etc. I swiftly came to realize that, while this might be in principle a worthy thing to do, especially since all members of the group are volunteers, it's not really what the first-year reading groups either are or should be about. The first year students already have too much other work on their plates, and shoveling a bit more their way is neither what they do want, or should want, or need.

This year, having seen the light after my own experience and after comparing notes with colleagues, I came up with a very different structure that I think worked better. It didn't involve actual reading, but so what. Instead, we watched four episodes (each about 40 minutes long, from a 1-hour commercial TV time slot) of the 1970s to 1980s TV show The Paper Chase, which of course is based on the 1970s movie and stars John Houseman as the ridiculously imposing Professor Kingsfield. Given the length, we had time to chat both before and after each viewing.

One thing that did work out as planned, I thought, was that the episodes are (thankfully) ludicrously inaccurate as depictions of what being a first-year is actually like these days. Nowadays there's far less hierarchy, pomposity, performance pressure, and rote memorization, and I certainly hope less panic and anxiety, than in the fictional world of the movie and TV series.

In part for this reason, the show was frequently unintentionally funny. But the problem, at least for me, was that, although The Paper Chase is apparently regarded as having been a fairly good show, at least in a comparative sense (considering all the other junk that gets made), it's actually pretty bad in any moderately demanding sense. It predates Seinfeld's raising the sophistication bar a bit for mainstream commercial television (in terms of both structure and black humor), and it even more substantially predates the modern auteurist, niche-marketed cable era of show-runner-curated higher quality television (perhaps initiated by The Sopranos, but with all the famous examples since that everyone knows about).

For next year, my tentative plan is to read two law firm or law school novels, spending two weeks on each and NOT doing stuff that lies as far in the past as the Paper Chase book. One of them would be my novel Getting It, which I genuinely think the students would like, although I recognize the potential awkwardness if particular group members didn't like it. For the other, I am tentatively thinking about either Lindsay Cameron's Biglaw or Lisa McElroy's Called On, although I need to read them first and see what I think. (Other suggestions would be welcome.)

A bit further out in left field, perhaps for the following year I'll do a pair of alternative takes on Tolkien's Middle Earth. I have two in mind, each delightful when read against the background of the canonical books and films. One is Kirill Yeskov's The Last Ringbearer, set a short time after the destruction of the One Ring and told from a pro-Mordor standpoint (e.g., Gandalf was a genocidal racist, Aragorn was a ruthless opportunist, and Mordor was a rising modern industrial society challenging feudalism). The second is Rolf Luchs' The Last Homely Housekeeper, founded on the point that Rivendell, to run smoothly, would have needed low-ranking elves to do all the grunt work on behalf of Elrond's guests, and that such individuals' perspective on all the visiting worthies might well have reflected the old Montaigne line that no man is a hero to his valet.

Crazy candidates and the paradox of voting

It’s well-known that voting is irrational, if one defines the motivation as increasing the probability that the candidate one favors will win. The problem, of course, is that the value of a favorable outcome, multiplied by the percentage increase in the likelihood of that outcome that will result from one’s voting, is indistinguishable from zero. Hence, no one with a positive valuation of his or her time would be expected to bother to vote, under this model.

The “irrationality” of voting, under this model, is even starker if one assumes that voters act on the basis of narrowly economic self-interest. Even if Candidate A, if elected, would cut my taxes by $10,000 relative to Candidate B, my bothering to vote for A can’t possibly make sense economically under this framework. Assuming narrowly economic self-interest heightens the irrationality by placing a ceiling on my potential valuation of alternative outcomes – especially when we keep in mind that a given candidate generally can’t enact his or her entire platform even if elected – there are broader political constraints. (Brendan Nyhan, for example, notes that, at the recent Democratic candidates’ presidential debate, “one issue received little attention: their theory of political change. How exactly would Hillary Rodham Clinton or her rivals pass the programs and proposals they advocate?”)

Under this calculus, by the way, it is not clear that even, say, the Koch brothers are being “rational” in narrowly economic terms. True, unlike we mere voters they can perhaps buy a statistically significant impact on the expected outcome. But would the narrowly financial benefit to them of having their candidates win elections and change policies in their favor, discounted by the probabilistic effect that all their spending actually has on the outcomes, come out positive if one ignored all of the other personal and psychological, but not so narrowly economic, reasons why they spend so much money? I suspect not. But, of course, it’s true that when you have so many billions there’s the problem that other valuable things money actually can buy start to run out – you can’t, for example, buy eternal youth or perfect happiness. If you could but it cost many billions of dollars, the Koches and all other billionaires who were potentially within reach of having the requisite amounts would have reason to be far more stingy with their money than in the actual state of the world, where good things available for cash start at some point to run out. But I digress.

Obviously, the well-known answer to the “paradox” of voting is that people do it for emotional, expressive, social, and participatory reasons. Once voting is viewed as an expressive or consumer act, the metric changes. There is still, presumably, an implicit calculus of cost versus benefit. This is why the Republicans hope to gain from making it hard for Democratic voters to get to the polls – although in 2012 this apparently backfired to a degree, by increasing, for many such voters, the expressive value of making damn sure they voted anyway, even if this meant waiting for hours on a line.

The continued relevance of cost versus benefit also explains why voter fraud is so close to nonexistent unless it can be centrally organized without detection – there’s simply too little payoff to the individual act. But voting as a consumer act destroys the basic paradox, because it saves from absurdity the premise that a given voter will view the benefit as outweighing the cost. (I for one have certainly wasted more time in my life watching bad movies than voting.)

I nonetheless view the paradox of voting as central to how toxically dysfunctional our political system has become. Once you are voting as a consumer act, all rational choice regarding whom to favor is potentially out the window. It’s almost a mystery that people ever bother to vote in favor of their economic or other interests. (Although the “what’s the matter with Kansas?” view posits, entirely plausibly, that often they don’t.) To the extent that people do vote in favor of their own economic and other interests, this presumably reflects expressive, group-solidarity type perspectives, rather than the economic calculus. A candidate who, relative to the other candidates, wants to direct net economic benefits to the likes of me is saying: “I like and favor people of your type.” But there are many different ways to make such a statement.

A key reason the disconnect matters is that it can eliminate any incentive whatsoever to think coherently about whether a given candidate actually would, if elected, tend towards making the world a better place, however one defines this. If I am thinking of buying a car, it is possible that I will be swayed by silly advertising, or by a car dealer who is expert on psychologically exploiting people like me, into making a bad choice. But at least I am the one who decides what car I should buy. I’m not going to fail to take the decision seriously on the basis that I can’t measurably affect what car I will end up owning. With voting as one member of a mass electorate, this is entirely changed. Given that the effect I will have on whom I will end up with is statistically indistinguishable from zero, a huge collective action problem discourages everyone from taking the decision seriously, other than as a consumer act.

One possible outcome, as we’ve been observing lately, is crazy candidates, or those who might not actually be crazy but act as if they are.

I think it also bleeds over into political irrationality by people in office who have incentives to get it right. Take the Iraq war as a case in point. Even if we posit that invading Iraq was enjoyable enough, to the key Bush Administration players, to be worth doing even if it was likely to turn out as badly as it actually did, there still are mysteries such as why, for example, they made no effort to ascertain seriously how the occupation could best be organized. Pro-war forces within the Administration actively suppressed efforts at a realistic assessment (which they not only disparaged but apparently genuinely viewed as mere weak-kneedness), even though the Administration paid the price when things started to go so badly. But when the entire realm of public policy debate is being systematically cheapened and distorted by the fact that individual actors, until they have great power, have almost no direct motivation actually to care about true cause and effect relationships – and when they are performing before audiences composed of individuals who each effectively have no reason to care – rationality gets drowned or shouted out. And of course all the issues are complicated, requiring knowledge and a sense of context. So it’s potentially much too late once a given politician, even if well-motivated (which is hardly a given), gets into a position where he or she can actually exercise significant influence on outcomes.

At the end of the day, “When do you get good political leaders?” becomes a cultural question akin to, “When do you get the Beatles instead of Justin Bieber?” [Not to hate too much on Bieber here, however – I needed to put someone there, and surely he’s much better as a pop star than Ben Carson would be as president.] Not exactly grounds for long-term confidence in our political system or others around the world.

Crowd-sourcing plea (with a reflective update)

I am entirely convinced that I once (or more than once) saw a Monty Python sketch that I think of as having the title, "What if Queen Victoria could fly?" I remember it as a mock-pompous alternative history exploration, in pseudo-BBC documentary style, of how this would have affected European history.  E.g., it suggests that she would have raised British morale by flying overhead, and also could have scouted German military positions.

The problem is that I absolutely cannot find any reference to it on-line.  Or at least, I can't find a reference to its actual existence. It is easy enough to find proof that I have previously referred to it in writing, indeed twice.

Does anyone out there remember such a sketch (be it from Monty Python or something else), or have suggestions as to where one might find it?

UPDATE: As per the comments below, the mystery has been resolved for me - it was Saturday Night Live and Eleanor Roosevelt, not Monty Python and Queen Victoria. Odd how clear my contrary memory seemed to be.

False (or at least altered) memories are an established scientific fact, but I don't recall such a clear prior example from my own memories. But of course that's circular - it concerns possibly false memories about possibly false memories.

My very first or oldest memory in life is undoubtedly altered or at least composite. I recall standing up against the side of a playpen with tan wooden slats - the color of which I accurately remembered (according to my parents, when I asked them some decades ago) - having just, out of whimsy as it seems, tossed all my toys out of it onto the floor. In the memory I am too young to be able to stand unsupported, or to walk. I'm alone in the room, and am probably wondering, pre-verbally: What exactly did I do that for? What am I going to do now? But it feels reflective, rather than cathartic. Then, in the memory, I let myself fall back again onto the soft mattress-like surface of the playpen.

In what's coded as a memory of the same moment, I have also, for the first time ever, come to grasp - and been stunned by - the irreversibility of time. A second of clock time passes - it's infinitely short, I inaccurately believed at the time, and without understanding how multiple seconds would then also have to be infinitely short - and then it's gone, never to return. The phrase that encapsulated for me this startling realization was: "Now is now, and then is then." I reflected on this for a bit, appreciating how important it was.

I suppose that both the playpen memory and that of my becoming aware of time's arrow could have a real historical basis. But my memory of them as simultaneous presumably can't be true, given that at the playpen stage I was probably too young either to understand time or to articulate my understanding.

Talk last Friday at Brooklyn Law School conference on tax treaties

Last Friday was the third straight week that I closed by going to a conference. This time around, however, I only had to get to Brooklyn (rather than to Ann Arbor or Los Angeles), for an IBL Symposium at Brooklyn Law School entitled "Reconsidering the Tax Treaty."

At the symposium, I gave a talk on my short paper, "The Two Faces of the Single Tax Principle." You can find the paper here, and slightly re-edited slides from the talk here.

C'mon, let's not be obtuse

Suppose I went with a friend to a restaurant that had bad food, and that also was way too loud, so we couldn't hear each other speak.

Then suppose I told someone else about the experience and that, when I complained about the din, she said: "That's not the problem - the problem is that the place has bad food."

I would be nonplussed by such obtuse repartee.  Well, yes, I'd think, of course I didn't like going to a restaurant with bad food, but I also didn't like being in a place that's too loud.  If there are two problems, why exactly is the fact that one of them is real supposed to imply that the other one can't also be real?

How much respect for the insight and perspicacity of this individual would I have, after experiencing this conversation? Probably, not much.

I am reminded of this by Harry Frankfurt's lamentable new book, called "On Inequality." I had thought of commenting about this book earlier, but it slipped my mind what with the press of events. But it was brought back to my attention by a link on the Tax Prof blog to a Stephen Carter piece on Bloomberg View.

Herewith Carter, quoting and commenting on Frankfurt:

"Inequality is on everybody's lips these days - everybody on the left, anyway, and a lot of people in the center and on the right as well. But what if everybody's wrong?

"That's the contention of 'On Inequality,' a small, smart new volume by Princeton University philosopher Harry Frankfurt. At the very beginning, he states a simple but powerful thesis: 'Our most fundamental challenge is not the fact that the incomes of Americans are widely unequal. It is, rather, the fact that too many of our people are poor." Progressives, in other words, are shooting at the wrong target. The moral problem posed by the distribution of wealth isn't inequality. It's poverty."

I fail to see the difference between Harry Frankfurt and Stephen Carter, on the one hand, and my imaginary interlocutor regarding the restaurant experience on the other hand. The moral problem? There can't be more than one?

As I have said many a time, including on this blog (such as here) but also, for example, here, low-end inequality and high-end inequality raise fundamentally different issues. The problems associated with poverty may be more important, and are certainly more clearly, less contestably important. But that doesn't rule out the possibility that both sets of problems are important - and indeed, that they might (e.g., as a matter of political economy) be mutually reinforcing.

Of course we should want to make people who are suffering better-off. And I am too committed to beneficence to endorse making well-off people worse-off as an end in itself. But what if high-end inequality has ill effects on everyone else, or indeed on everyone? It is not seriously disputable that there are grounds on which this can seriously be argued (whatever one's own ultimate bottom line conclusion).

Frankfurt and Carter are simply embarrassing themselves by saying that "the" problem is just low-end inequality, and thus that high-end inequality ostensibly can't (apparently as a logical matter?) be a problem. It would behoove them to be more thoughtful, even if they ultimately were to remain on the anti-anti-plutocratic side.

The (pick a noun) of low expectations

Journalist Jake Tapper is getting widespread praise for asking Jeb Bush why, if it's utterly unacceptable to blame George W. Bush for not preventing 9/11, it's fair game to spend 4+ years questioning Obama and Hillary over the Benghazi attacks.

Jeb spluttered haplessly for a few seconds, apparently unable to believe that someone would ask him this, before blathering something about how, well, if Obama and Hillary had ignored prior warnings about the embassy security level, then it's legitimate to question them about this.

What's interesting is what happened next, or rather what didn't happen. The obvious follow-up from Tapper should have been: OK, but in that case, what about the infamous August 6 briefing that GWB received, entitled "Bin Laden Determined to Attack in the U.S.," and GWB's wholly dismissive response. If the current Administration can be challenged for ignoring warnings, then what about that gigantic oversight?

Obviously Tapper knows about this incident. My guess is that he felt it would be too disrespectful towards a member of the political leadership class to challenge him so crisply.  He presumably  felt that he had gone out far enough on a limb already by daring to ask the first question.  Which tells you something, not so much about Tapper in particular, as about the mainstream press.

NYU-UCLA Tax Policy Symposium on Entrepeneurship

The conference was yesterday, and I'm now at LAX awaiting the boarding call for my return flight.

Hopefully this will go more smoothly than my delayed flight out to Los Angeles on Thursday night. But AM travel tends to go more smoothly than late travel. I had needed to pick a late departure time due to a late afternoon class. Missed the Mets' thrilling Game 5 victory, then couldn't sleep until I had thoroughly absorbed the highlights. (Pessimism and fear had lessened the suspense of waiting for wheels-down so I could check the score.)

I would say the conference largely confirmed my prior that designing tax policy to encourage "entrepreneurship" is mainly a blind alley, cant and Ayn Randian rhetoric aside.

The first paper, by Eric Allen and Susan Morse, uses a model in which entrepreneurs have a very small probability of very big success, and have limited time and money that will run out if they don't hit it big enough first to attract the next round of VC financing. Backloaded tax benefits that will help if they succeed (but not otherwise) and that are costly to set up prove in this model to have very little value, and to potentially lower the chance of ultimate success (if accessing them uses scarce resources) even if they modestly raise one's after-tax expected return.

The second paper, by Donald Bruce, shows that it's difficult to link changes to any of the macroeconomic aggregates that we might think encouraging entrepreneurship has in mind, to policies ostensibly encouraging entrepreneurship, using any available measures of who these people are.

The third panel, for which I was the moderator, had a paper by Bill Gentry finding that people whom we might conceivably think of as including entrepreneurs have a lot of unrealized gain.  Vic Fleischer had a paper discussing the point that lots of capital gains these days are actually labor income. The papers had opposing policy suggestions, and I had some things to say at the session, but as both paper drafts are preliminary, perhaps best to leave it for now. (The video may be available on line).

On the fourth and last panel, Steve Shay had a paper, also in preliminary form, suggesting that, even taking as given the case for  providing subsidies or support of some kind for intellectual property creation (not necessarily limited to that which is patentable or copyrightable), it is not clear that we can do a good job either of identifying the things we might want to encourage, or of deciding how best (and how much) to encourage them.

I'm back in NYC as I finish this post, and glad that I will not be back on the road (or at least, going further to a conference than Brooklyn) for the next couple of weeks.

Jumping the gun on "taxes and entrepreneurship"?

This Friday, October 16, is the date of the fifth (I think) Annual NYU-UCLA Tax Policy Symposium. It will be held at UCLA, and I will be flying out there late on Thursday night (after an afternoon class) in order to be the moderator for one of the panels.

This year's topic is Tax and Entrepreneurship, and the schedule is available here. The session I'll be moderating has the title "Can Entrepreneurship Justify the Capital Gains Preference?" It will feature papers by Victor Fleischer and William Gentry, and Ed Kleinbard will be our featured commentator (although I might possibly have a couple of much shorter things to say as well).

I will admit that I am somewhat of a skeptic about this topic on the merits, although it's timely and well-chosen in terms of contemporary debate. Consider the title of the day's first panel: "Goals and Design Principles - How Should We Use the Tax System to Encourage Entrepreneurship?"

While I haven't seen the papers for this panel, I think its title is jumping the gun a bit. Who's to say that we should be using the tax system to "encourage entrepreneurship"? I start out as very skeptical about this.

To think otherwise requires going outside standard economic models to posit a kind of market failure that has not, to my knowledge, been convincingly demonstrated. What makes this particularly ironic is the fact that proponents of "encouraging entrepreneurship" may often think they are being pro-market, and indeed in some cases this may rise to the level of ideology. But clear thinking reveals that, without a market failure claim, the case for particularly "encouraging entrepreneurship" collapses.

Let's start here by employing a conventional neoclassical model. People work and invest in order to reap economic rewards, and at the margin the market (and thus social) value of what they supply equals the cost to them of supplying it. We get the efficient outcome, but then, alas (from an efficiency standpoint), the tax system drives a wedge between supply and demand by taxing the value of economic production.

By imposing the tax, therefore, we are discouraging all productive activity, "entrepreneurship" included but without there being anything special about it.  So while reducing discouragement of all productive activity would be a good thing, from an efficiency standpoint, why exactly do we want to "encourage entrepreneurship"?  Unless there's more to the story, such an approach would inefficiently favor one branch of productive activity - which we haven't even, as yet, defined, or ascertained that we can identify in practice even if we know what we mean in theory - relative to other productive activity.

Is it being claimed that "entrepreneurial" activity is more tax-elastic than other modes, providing an efficiency reason for applying a lower rate?  No, that does not appear to be the primary claim, and if it were the rhetoric wouldn't specify positive "encouragement." If anything, successful "entrepreneurs" may often end up earning rents, which would imply lesser tax-elasticity and thus that perhaps we can tax them more highly than others without creating efficiency costs.

The claim is rather one about positive externalities. Supposedly, the successful entrepreneurs transform society, create economic progress, expand employment and others' wealth (not just theirs), create higher consumer surplus from the products they introduce, etcetera. Now again, this is an argument about market failure - not about freeing up markets. Only because (or rather if) these supposed magicians are creating benefits to others that they can't personally capture, and that markets don't enable them to extract, do we have any particular reason to "encourage" their activity relative to any other type of market activity.

Suppose we agree that intellectual innovators and pioneers help to transform society or expand the economy, making things better for everyone. Are these the same people as the "entrepreneurs" who would benefit from a lower capital gains rate in the scenario where they hit a home run? Are the supposed "entrepreneurs" in the data sets that studies use - e.g., self-employed businesses or whatever categories they employ - the same people as the ones who, in this story, are creating positive externalities?

Suppose we have a creative innovator, a unique individual who is poised to do great things that could have a general social payoff.  To what extent are the positive externalities that this individual is likely to generate correlated with the taxable income that he or she ends up earning? Is there a theory explaining why, the more this individual earns, the greater the external benefit to others?

If we are looking to intervene economically in the market, via the tax system, by tax-favoring some activities relative to others, how high on the list should these "entrepreneurs" be relative to all other individuals and activities that might yield positive externalities? What about nursery school teachers?  Artists? Scientists? What about - well, fill in the blank.

What about people who look a bit like entrepreneurs, so far as our identifying markers are concerned (e.g., being self-employed or getting long-term capital gains down the road), but who are imposing negative externalities, such as from rent-seeking? Are they relevant to the story as well? How much do we actually know about the balance between the negative externalities they create, and the positive externalities that "good" entrepreneurs create?

Okay, I realize that there is a burgeoning literature on "entrepreneurship." I'm loosely familiar with it, but certainly don't know it that well. Hopefully I will learn a bit more about it at the symposium. But based on what I know so far, I am skeptical about the extent to which this literature makes a convincing connection between (a) credibly demonstrated net positive externalities and (b) the "entrepreneurs," identified via imperfect markers, who ostensibly should be "encouraged."

I also am suspicious of the incoherent market triumphalism that celebrates "winners" without recognizing that the case for particularly encouraging them through the tax system rests on a claim of market failure, rather than on one about markets' virtues.

UPDATE: I am pleased to see that the papers at the NYU-UCLA symposium generally or mostly approach the topic without premature buy-in to the stance that I criticize above.

Slides for "Taxing Potential Community Members' Foreign Source Income"

This past Friday, I attended the Taxation and Citizenship Conference, held at the University of Michigan Law School, and ably organized by Reuven Avi-Yonah and Allison Christians.

I presented my paper "Taxing Potential Community Members' Foreign Source Income," which is available here.

The slides for my talk - which don't attempt to present the entire paper, as that would have been a real mess in a 15-minute time slot - are available here.

This is a fun and important topic, although (as I note in my paper), it's awfully hard to get a handle on how one should define "us" versus "them" for purposes of identifying individuals who will be treated as domestic taxpayers (a bad rather than a good thing for them, as it means they are potentially taxable on their foreign source income).

While I don't come to closure on that issue, I do note, mainly in the mode of preliminary exploration, that some of what I say regarding in my international tax book regarding entity-level corporate income taxation might also apply to the taxation of individuals - but with modification to reflect the differences between the two settings. I also sound what I think are a couple of fairly novel notes regarding how to think about taxing resident individuals' foreign source earned income, currently exempted (up to a dollar ceiling) under IRC section 911.

One subject of widespread agreement at the sessions, albeit not among the topics centrally addressed in my paper, was that FATCA, requiring foreign financial institutions to report to the U.S. regarding U.S. individuals' bank accounts, was aimed at people living in the U.S. who are committing tax fraud - not at U.S. citizens living abroad who may face onerous U.S. reporting requirements under the income tax, independently of FATCA. The question of burdens being imposed - often quite disproportionate to the tax revenue actually at stake - on our expatriates is something that requires more attention  than it has gotten to date from U.S. policymakers.

A new Yogi Berra-ism

On Friday I was at a conference on citizenship and taxation at the University of Michigan Law School. More on this, including my slides, within the next couple of days.

One of the other people at the other conference teaches in South Carolina, and was describing the horrible damage caused there by the storm. Much of the state is underwater, and reservoirs for drinking water have become compromised and temporarily unusable.

Without intending in the slightest to make light of this terrible situation, which has my full sympathy and concern, I couldn't help thinking of what Yogi Berra presumably would have said about this:

"There's no water there - it rained too much."

Anyway, I hope things return to normal there ASAP and with as little lasting damage as possible.

The tell

U.S. international tax policy debate is ramping up for a big fight over the OECD BEPS proposals. There is clearly going to be a lot of scholarship with competing bottom lines, and also a lot of straight-out advocacy, which on the corporate side will be very well-funded. The lines between scholarship and advocacy, and between plausible advocacy and hack work, will not always be clear.

With this in mind, I was disappointed by a piece I read this weekend, lead-authored by the eminent economist Gary Hufbauer, whose work I have admired and indeed cite in my international tax book. Hufbauer et al argue that OECD-BEPS is predominantly bad for the U.S. 

Okay, this is one side in the debate, and it is potentially plausible in at least some scenarios, although I lean more to the other side. Just on a personal level, I happen to have friends whom I respect on both sides of the debate.

But then I go to Appendix A at the end of this piece. It makes the claim that criticism of Apple and its affiliates for paying too little tax is factually inaccurate.  To quote:

"Apple and its stakeholders probably paid to the IRS around $25 billion between June 2014 and June 2015. This works out to a robust 45 percent of global profits in that year. Excluding the [shareholder-level] capital gains estimates, Apple and its stakeholders still contributed nearly $16 billion, or about 30 percent of global profits. The accusation that Apple and its stakeholders are shirking their responsibility as US taxpayers is not supported by the facts. "

Wow, all that well-documented tax planning to such little effect. Should Apple perhaps fire its CFO and tax director?

But here are a few details about how Hufbauer et al made these calculations:

--The measure of U.S. taxes paid that they use is almost certainly false as used. It's derived from GAAP reporting that treats deferred U.S. taxes that will in theory be paid by Apple at some point in the future as if they had been currently paid. This would be fine if the expected present value of the deferred taxes was the same as the amounts reported. But this is quite unlikely under real-world circumstances that permit companies to anticipate never paying this tax, at least at the current 35% rate. (Consider future tax holidays, lowering of the U.S. corporate rate, enactment of exemption without a present value-equivalent transition tax, etc.)

Apple would probably have had no problem persuading its accountants to treat the associated earnings as "permanently reinvested abroad" (or "PRE" in standard lingo), permitting it to treat the deferred taxes as zero rather than as equivalent to current cash taxes. It's well-known that Apple doesn't use the PRE designation to nearly the same degree as many other companies, apparently because they want to position themselves in public debate as relative good guys. Given not just this point but Apple's actual repatriation practices, we know with certainty that its current period cash taxes are far lower than its GAAP-reported taxes. Given the issues concerning how, if, and what tax rate future taxable repatriations will occur, there is a strong argument that current period cash taxes are generally as good or better a measure of actual tax burdens, even though what actually matters is true expected present value.

For this reason, work that I respect generally attempts to figure out cash taxes paid, even though they aren't reported. For a study of Apple, given their unusual non-reliance on PRE, it's absolutely necessary to try to do this, or at least to acknowledge the point.

Ignoring (or not knowing) this, as Appendix A does, is not what one would expect of competent professional work.

--The estimated tax on employee compensation is included in the numerator. But the employees' taxable income from that compensation is not included in the denominator.  That fails the test of using a consistent standard that compares apples to apples, etc.

I titled this blog post "the tell." This of course is a poker term, referring to giving yourself away. I had particularly in mind the following two sentences: "To sum up these calculations, Apple and its stakeholders probably paid to the IRS around $25 billion between June 2014 and June 2015. This works out to a robust 45 percent of global profits in that year." 

This is just really bald. From one sentence to the next you have a shift between the inconsistent numerator and denominator, written in such a way as to obscure it. Whose are the global profits, after all? Not those of "Apple and its stakeholders."

BTW, they even include Social Security and Medicare taxes estimated to have been paid by Apple employees. While one could in principle argue for this - leaving aside both incidence questions and the issue of linkage between Social Security taxes and benefits, which could turn these into prepayments for retirement income and services rather than "taxes" - this is a large departure from accepted frameworks of comparison. Once again, it means that the careless reader may end up comparing apples to oranges.

--They also include, in the taxes-paid numerator, shareholder-level capital gains and dividend taxes.  Now, here at least (unlike with employee compensation) there is a reason for keeping the income that gave rise to these tax liabilities out of the denominator. If you have a pure double tax on corporate income, you wouldn't count the same income twice, at both the entity and shareholder levels, in the course of determining the tax burden on the overall enterprise.

But capital gains can relate to past earnings that might not have been taxed at the time, and/or to expected future earnings that might not be taxed in the future.

Hufbauer et al note that the period they measure includes an "exceptional period for Apple [in terms of] its stock market valuation." Especially if this was an atypical period for Apple stock, significant adjustments might be required. Now, Appendix 1 does suggest that they made certain adjustments for both timing and period-related elements of the capital gain. But once I've seen them using the GAAP taxes-paid measure without reference to its possible inaccuracy, and once I've also seen their putting taxes on employee compensation in the numerator but keeping the associated income out of the denominator, it becomes much harder to give them the benefit of any doubt on how they adjusted. There is simply no reason to trust them on this issue, once one has seen how they handled other issues.

Stop using the Gini coefficient!

I have felt for a while that statistical measures of aggregate inequality, such as the Gini coefficient, are not very informative because they agglomerate two different issues: high-end inequality and low-end inequality.

Here, for example, is what I said about it in a recent book review:

"According to an old joke, a statistician whose head was on fire, while his feet were encased in a block of ice, reported that, on average, he was very comfortable.  Less well-known, however, is the kinship of a sort between this poor fellow and the Italian statistician Corrado Gini, who not only devised the famous Gini coefficient, but urged its use in measuring a given society’s aggregate income or wealth inequality.

"The problem Gini missed relates to interpretation, rather than to measurement.  Under the Gini coefficient, extreme inequality at both the top and the bottom of the social scale will not statistically offset each other, giving us a false reading of zero aggregate inequality, along the lines of the fire-and-ice example.  Instead, each will raise the quantum of inequality that the measure detects.  However, the coefficient still has the defect of amalgamating two normatively distinct phenomena in a single measure.

"Low-end inequality matters because it indicates that some people are worse-off than the rest of us.  Basic human beneficence indicates trying to help such individuals.  To be similarly concerned about high-end inequality, from the standpoint of beneficence – which would oppose making those at the top worse-off as an end in itself – one needs to make the case that it is bad for everyone else.  I myself am among those who believe that the extraordinary rise, in recent decades, of the top 0.1 percent has indeed had harmful effects on the remaining 99.9 percent.  Yet whether those of us who believe this are right or wrong, both the main issues raised by high-end inequality and the main fiscal policy (and other) instruments that one might use in addressing it, are very different than those associated with addressing low-end inequality."

The problems with using Gini were most recently brought to mind by recent discussion of a paper by Bill Gale, Melissa Kearney, and Peter Orszag which asked "how much of a reduction in income inequality would be achieved from increasing the top individual tax rate to as much as 50 percent. We calculate the resulting change in income inequality assuming an explicit redistribution of all new revenue to households in the bottom 20 percent of the income distribution. The resulting effects on overall income inequality are exceedingly modest."

One issue raised here is that raising the ordinary income rate can't do anything about all economic income that isn't subject to this rate, whether because it is treated as capital gains or remains unrealized. Likewise, taxing inheritance is not part of the exercise - whereas, whether doing so is a good idea or not, it's clearly more closely related than annual taxable income to all of the Piketty issues.

More on the Gini front, however, here is part of John Quiggin's response, which is very like-minded to my view of the topic:

"What does this [i.e., the Gale-Kearney-Orszag finding] mean? Two things:

"(i) As is well known, the Gini coefficient is a lousy measure of income inequality, much more sensitive to the middle of the income distribution than to the tails. [Note: as Quiggin acknowledges, Gale et al look at considerably more than just Gini - I am telescoping the discussion here.]

"(ii) The proposed redistribution would substantially improve the welfare of the poor, with most of the burden being borne by taxpayers in or near the top 0.1 per cent.

"It’s obvious, as the authors note, that the 90-50 measure won’t change, since neither group is affected (there’s no simulation of behavioral responses which might have indirect effects). But, since the 99th percentile income is very close to $400k, there’s very little impact on this group either. But the tax, as modeled, raises a lot of money from the ultra-rich incomes. As a result, distributing the proceeds at the bottom of the distribution raises incomes substantially, which explains the big changes in the 90-10 and 99-10 ratios.

"The real lesson to be learned here, one I came to pretty slowly myself is that old-style measures looking at quintiles or even percentiles of the income distribution are no longer very relevant. The real question, in the economy of Capital in the 21st Century is how much should go to the ultra-rich."

Or at least, I would say, that's the real question insofar as one's interest is high-end inequality in particular. (With no adverse implications for the relevance of low-end inequality.)

The farce of "arm's length" transfer pricing and "cost-sharing"

I'm currently teaching a class on U.S. international tax law, which has helped me to reconnect with nitty-gritty details of the existing rules that don't always feature in my (or other people's) analyses of broader conceptual issues in the field.  In a class that is coming up soon, we will be discussing the U.S. transfer pricing rules.

From a purely pedagogical perspective, when I read the recent case of Altera Corp. v. Commissioner, decided unanimously by 15 U.S. Tax Court judges on July 27 of this year, I felt like the recipient of a rare gift. Most of the transfer pricing cases are long, fact-specific, and based on past iterations of the transfer pricing regulations that the IRS and Treasury subsequently tried to fix. This tends to leave the cases' continuing precedential value and broader interest far too limited to justify spending a lot of the time on them in a 3-hours-per-week general survey course.

The frequency of changes to the relevant regulations reflects Rule 1 of U.S. transfer pricing litigation, which holds that the government always loses. (This is not quite literally true - but in the few transfer pricing cases that the government won there were generally egregious taxpayer blunders, unlikely to be repeated, such as failing to do anything to establish a proper fig leaf, and/or leaving memos in the files avowing an intention to use bogus transfer prices.)

By such standards, Altera is a dream case for three reasons. First, the regulations under which it was decided remain almost up-to-date. (They were issued in 2003, and subsequently revised in 2011, but not, it appears, relevantly to the main issue in the case.)  Second, Altera was decided on summary judgment, so its discussion and analysis almost exclusively pertain to broader legal issues, rather than to narrower factual ones. Third, there could be no better illustration than this case of the farcical nature of U.S. transfer pricing practice, and of the need for it to change.

I view Altera as a farce in three acts (more on this shortly), but this does not count the already farcical set-up. Section 482 of the U.S. Internal Revenue Code authorizes the Commissioner to restate the claimed terms of purported transactions between commonly-owned businesses if "he determines that ... [this] is necessary in order .. clearly to reflect ... income."  These words could hardly sound more deferential to the Commissioner's administrative discretion. But unfortunately, the regulations state that "the standard to be applied in every case is that of a taxpayer dealing at arm's length with an uncontrolled taxpayer."

This is far more limiting that "clearly reflecting income," and can be read as suggesting a need to treat actual arm's length transactions between unrelated parties as relevant legal precedents for IRS transfer pricing determinations under section 482. Now, there is a huge literature about all this, which (in my reading, at least) has reached the predominant conclusion that an arm's length approach is completely useless, due to the both theoretical and practical problems that it faces. But for many in the field, adherence to arm's length appears to remain a matter of quasi-religious faith.

Altera itself concerned a regulatory election, under which U.S. taxpayers with foreign affiliates can opt to use an approach called "cost-sharing" for purposes of determining the applicable transfer prices within the group. In the typical case, a U.S. company with U.S. employees who live, say, in California or the Pacific Northwest is creating what it hopes will be valuable intellectual property (IP) that can be profitably exploited worldwide.  Cost-sharing is a device that they use to shunt as much of the overall profits as possible to tax haven subsidiaries in, say, the Cayman Islands.

Now, in the real world of transactions between unrelated parties there sometimes are actual "cost-sharing" agreements. For example, two companies with complementary skill sets might agree to collaborate on something that they hope will make them both a lot of money.  In such a case, they may agree that the ultimate profit split will be affected by how much $$ each of them has expended in the development process.

Then there is fake cost-sharing between affiliates, the topic of interest here. Back to our U.S. company. It has all the employees and all of the relevant skills for developing particular IP. But it creates a Caymans affiliate that, in substance, contributes nothing to the process. But the Caymans affiliate does indeed observably purport to contribute cash to help pay for developing the IP. Where did it get the cash?  Easy, the U.S. parent will typically have given it the cash, in exchange for all of its equity, so that the affiliate could hand the cash right back to the U.S. parent via the pretense of paying for a portion of the development costs. The Caymans affiliate may then get, say, 100% of the upside with regard to profits from selling the IP in all countries outside the U.S.

In short, the typical deal is like (one suspects) almost no actual cost-sharing arrangement in the history of arm's length transactions.  One party (the U.S. parent) contributes everything, while the second party (the Caymans sub) contributes nothing, except for giving back cash that the first party had placed in its bank account 5 minutes earlier.

It is already giving these transactions too much credit to say that the Caymans affiliate has effectively gotten the entire foreign "upside" in exchange for nothing. Its getting this upside (and thereby "bearing risk" regarding how great this will actually be) is completely meaningless, given common ownership. But in fact no party to a true arm's length cost-sharing arrangement would get the opportunity to make this sort of a deal. You don't get a piece of the upside without bringing something real to the table. So it's fundamentally ludicrous to look at actual arm's length cost-sharing deals for evidence of how a particular item within the broader deal ought to be treated in related-party arrangements.

Giving away all the foreign upside in exchange for nothing is already a nice feature of supposed cost-sharing arrangements between commonly owned affiliates. But it's better still if, contrary to the supposed logic of section 482 cost-sharing, you can also give disproportionate deductions to the U.S. affiliate. This further increases the proportion of taxable income that can be treated as arising in a tax haven, rather than in the U.S.

Taxpayers have assiduously pursued these opportunities. Earlier versions of the cost-sharing regulations had proven ripely exploitable, forcing the IRS to revise them, but it had also taken two beatings in prior litigation concerning the earlier regulations.

So the farce really started long before Altera. In Altera itself the legal issue was relatively narrow, although (as we will see) its implications are considerably broader. Taxpayers evidently saw how they could take advantage of the fact that common practice in the IP industry involves giving the "talent" incentive compensation such as stock options.  Thus, if the engineering team contributes to hitting a home run, such that the value of the company's stock skyrockets, the members of the team get to see the value of their compensation go up accordingly.

A trick that taxpayers came up with was to argue that, under the cost-sharing regulations, this incentive compensation - often a huge piece of the overall development costs - should be excluded from those that the Caymans affiliate needs to "share."  This wouldn't matter economically, but it would permit the U.S. parent's taxable income to be lower, and the foreign affiliates' share to be higher, than if such costs were included in the cost-sharing formula.

Even before the final version of the 2003 cost-sharing regulations came out, it was clear that the IRS would require including incentive compensation in the costs to be "shared." So the regs would have to be invalidated in this regard, if the above plan was to work. Taxpayers therefore set up a farce that played out in the following 3 stages:

(1) The industry and its friends flooded the notice-and-comment process that gave rise to the 2003 regulations with extensive information documenting that true arm's length cost-sharing deals NEVER require the parties to share the cost of each other's incentive compensation.  They also explained why this was so. For example, it would give unrelated parties odd incentives, e.g., to try to drive down each other's stock price so that the costs one had to share would be lower.  Needless to say, these considerations don't actually apply to related party deals, where there is only one affiliated group, playing on both sides, and thus there is no possible concern about thus harming deal concord.

The taxpayers of course did not have to show (as would have been impossible) that arm's length parties would ever make a deal in which one side provides all the value, and the other gets a huge piece of the upside despite adding nothing that the other side needed. For good measure, the taxpayers proffered statements by reputable leading experts, saying, for example that there is no economic cost to a corporation or its shareholders of providing stock-based compensation. If this is true, I would like to offer $5 per firm for options just like those that high-end IP firms grant to their star employees.

(2) As no doubt was expected, the Treasury stuck to its guns in the final regulations. It kept the requirement that incentive compensation be included in cost-sharing.  In two important respects - each no doubt anticipated by the strategists on the other side - the way in which this was done placed the regulations in legal peril. First, the transfer pricing regulations as a whole continued to say that the standard in all cases is that of arm's length transactions between unrelated parties. There was no separate reliance on clear reflection of income. Second, the preamble to the regulations offered conclusory statements to the effect that the Treasury was simply unpersuaded by the evidence that taxpayers had offered in step (1) of the farce. The preamble did not carefully explain, for example, why the facts evinced concerning true arm's length deals had little bearing here, given other differences between the two settings. What made this unsurprising was common practice by the Treasury. Preambles generally are not written as litigation documents - although, after Altera, they probably will be - because the Treasury evidently believes (or has believed) that its seemingly broad administrative discretion makes this unnecessary.

(3) The final stage of the farce took place before the Tax Court in Altera. The taxpayer's litigators successfully peddled a dramatic story of stubborn regulatory high-handedness. In fact, what the Treasury had been guilty of was indifference to evidence that was logically irrelevant. But 15 Tax Court judges bought the story sufficiently to be unmoved even by the IRS argument that cost-sharing's elective character as a taxpayer method should make full adherence to "arm's length" unnecessary here, even if it is required elsewhere under the transfer pricing regulations.

Altera likely has broader implications for the tax regulatory process. Taxpayers will regularly flood the notice-and-comment process with evidence and arguments that the Treasury has now learned it will need to rebut expressly and extensively, such as in preambles to final regulations.  The point need not be to persuade the Treasury - just to delay it and raise the legal risks it faces. The preambles, or other published support for final regulatory pronouncements, will need to be written as litigating documents, in cases where a serious and well-funded legal challenge can be anticipated.

In addition, the transfer pricing regulations generally (i.e., not just in cost-sharing) are likely to be subject to multiple challenges.  These regs have developed over the years to have an ever more "formulary" character.  They set forth multiple approaches that look, say, at the profit split or rates of return being claimed by the different members of a commonly owned group. In many of these cases, taxpayers may be able to adduce evidence that, in arm's length deals of a seemingly (but not actually) similar character, particular aspects of a given formula are not in fact taken into account.  So the farce of existing transfer pricing practice has a good chance of getting a lot worse.

How the Treasury should respond to this is not entirely clear. But one thing they certainly should do is delete, as soon as possible, the statement in the regulations that arm's length, rather than clear reflection of income, applies "in every case."

There are also arguably broader implications for the ongoing BEPS process. Obviously, Altera is not a relevant precedent outside the United States. But it shows what can happen if one doggedly tries to apply arm's length "evidence" and reasoning outside their actual realm of economic meaningfulness and relevance.

Bankman-Shaviro article on Piketty's Capital in the 21st Century

These days virtual publication matters more than actual, so far as readership is concerned. But I'll nonetheless note that the article I co-authored last year with Joe Bankman, "Piketty in America: A Tale of Two Literatures," has now officially come out.  It's at 68 Tax Law Review 453-516 (2015).

The online version, differing little from the final one, is available here.

The Tax Law Review issue (vol. 68, #3) in which it appears contains all five of the papers from the symposium on Piketty's book, Capital in the Twenty-First Century, which took place here at NYU just over a year ago. The others are by Gregory Clark (with Neil Cummins), Wojciech Kopczuk, Suzanne Mettler, and Liam Murphy. There's also a response by Piketty that mainly covers some aspects of what he had in mind with the book.  He appears to have no quarrel with our commentary.

Chirelstein memorial session

The Chirelstein memorial session at Columbia was quite nice. Lots of people have great memories of him, with complementary stories, and a very clear picture emerges of a unique and delightful man.

One thing we heard a lot about, at the session, was how much Chirelstein ostensibly liked students. He definitely liked teaching and performing. But one thing my group at Yale Law School - an extremely skeptical and hard-bitten group regarding most of our professors, but unabashed Chirelstein fanboys - most liked about him was that he wasn't cuddly or ingratiating or seeking our approval or friendship.  He seemed above all that - albeit wholly lacking (thank goodness) in Kingsfieldian pretense and pomposity.

Oddly, of the 8 speakers, only one of them (Stephen Cohen) was part of the tax world. We heard lots and lots about Chirelstein's engagement with colleagues concerning contracts (and also about his path-breaking corporate finance work), but very little about tax.

I'm not sure why there weren't more tax speakers - for example, his Columbia tax colleagues Graetz and Raskolnikov were there, not to mention his one-time Columbia tax colleague (and co-author) Zelenak. I also would have had plenty to say about Chirelstein, if I had been asked. But admittedly I was by no means an intimate of Marvin's, nor I suspect, were these other individuals.  The answer may be that Chirelstein preferred the contracts world and contracts people to those in tax, leading to closer personal connections there, by his choice.