Monday, December 04, 2017

One way to improve the tax bill (although it would still be awful)

My view of both tax bills that now await a conference is that they combine making revenue and distribution much worse with reducing the efficiency of the tax system and greatly increasing its complexity for high-income individuals, who will be absolutely swimming in new tax planning opportunities. It also represents a historically unprecedented use of the federal income tax system as a targeted weapons system for distributing favors to friends (beyond just using "rifleshot" special exceptions for one or two taxpayers, although we have those too) and, let's call it less favorable treatment for non-friends.

That said, there is one way that one aspect of the harm could be made less bad, although they won't be taking me up on this. A clear goal of the legislation is to ensure that special friends among the super-rich pay lower marginal rates than people in the upper middle class. I wouldn't dignify this with the label of "belief about fair distribution," since, for example, high-paid CEOs of publicly traded companies don't appear to be in the special friends group.

The aim, rather, is that very rich people they like, in industries they like, should pay lower marginal rates than those in the upper middle class or the less-favored super-rich.

But let's suppose they were willing to generalize, in a more principled way, their belief that very rich friends should pay lower rates than people in the upper middle class. Suppose they were willing to apply this belief to all very rich people, on a neutral basis within that group.

Then there would be a mechanism for reducing the tax bill's inefficiency and encouragement of tax planning, without doing any overall harm either to revenue or to distribution.

It would be a simple four-step process: (1) eliminate the passthrough rules, (2) address the use of corporations as a tax shelter, via the under-payment of owner-employee salaries and the "stuffing" of corporations with investment assets, (3) eliminate the tax-free step-up in basis at death, which greatly worsens lock-in for appreciated assets and ensures that huge profits enjoyed at the top will never be taxed at all, and (4) lower the top rate as much as you can given these changes, without sacrificing overall revenue or changing overall distribution. We might then have an overt, and perhaps significant, decline in marginal tax rates at the top.

This would eliminate the inefficient industrial policy and inducement to ridiculous tax planning that the current structure has, without making either revenue or distribution any worse than they are already. It would also amount to an honest statement of the actual distributional policy that evidently motivates the tax bills, insofar as there is a policy beyond that of rewarding donors and friends. And, for what it's worth, it would avoid treating the super-rich unequally (special friends better than the rest).

It would be interesting to know just how much rates at the top could decline in this scenario. But we know they won't do it, for at least 3 reasons: (1) lack of concern about the structural and tax planning problems that the bills are causing, (2) a preference for dishonestly concealing the actual distributional policy (hence all the lies about this being a "middle class tax bill"), and (3) the fact, that among the super-rich, they want to direct the largesse at their special friends in particular.

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