How simple can tax reform get? (from the comments)

The corporate income tax could be reduced to zero if all corporations were treated as pass-thru’s. However, for a variety of technical and practical reasons (too lengthy to discuss here), that is not feasible. Under the current regime, many businesses have the option to be treated as pass-thru’s (e.g., LLC’s and partnerships) and thus taxed only once at the individual rate, but for most publicly traded and very large entities, entities with foreign shareholders, etc., that is not possible or practical. One could also consider an imputation system such as used by the UK, but that is also messy.

The ideal system should treat all income at the same rate, regardless of the form of business. Currently, corporate income (including distributions) is subject to a higher rate than income from non-corporate entities. The federal marginal rate is currently 48 percent (35% + (.20 x .65) = 48%) compared with a marginal rate of 39.6% on ordinary income. These rates should be equalized and, preferably, the rate of corporate tax and the rate on distributions should also be roughly equal in order not to discourage corporate re-investment over distributions or vice versa and therefore avoid undue distortion regarding decisions on the allocation of capital. Thus, at the current marginal rate of 39.6%, the current proposal of a corporate rate of 25% would roughly achieve this with the current dividend marginal rate of 20% (25% + (.20 x .75) = 40%). Progressivity can be achieved (as it currently is) through progressive rates on the dividends/capital gains.

As someone who spent an entire professional career in the business, I find it amusing and naive that economists who lack any detailed knowledge of the Code or practical experience with its administration think it’s easy to radically “simplify the tax code”, make it “fair” to everyone, eliminate all tax avoidance, all at the same time! The three are simply not feasible simultaneously. As a wise man once said, “the life of the law has not been logic, but experience”.

The experience has also been that we need more than one type of tax in order to prevent the inevitable tax planning around one or the other. The system is complicated, but it is a result of a considerable amount of trial and error and political compromises. It can be made better, yes, but Trump’s promises are more credible than those who promise a one page tax code.

That is from Vivian Darkbloom.  And from another Vivian comment:

1. “…so just tax that person”. Please explain how, absent a corporate income tax, the US is going to effectively tax foreign investors, if they invest via a US or foreign corporation. This is a major practical problem of eliminating the corporate income tax completely. It would be very difficult to get one’s ounce of tax flesh out of non-US investors and put them on equal footing with US investors (the same issue arises with a system relying solely on consumption tax). It would be very impractical to abrogate the 68 or so bilateral tax treaties the US is party to today or the treaties of friendship and commerce.

On the mark.


Comments for this post are closed