Trends in Taxation

By James A. Woehlke

In Brief

Reinventing Federal Taxation

Despite the public's and practitioners' constant griping over the complexity and unfairness of the tax code, real change never seems to materialize. There are some in Congress that seek to pass a Date Certain Tax Code Replacement Act. By setting a date when the existing IRC would terminate, such a bill is intended to force a debate on alternative tax systems.

What alternative system will the politicians propose? The usual candidates are a national sales tax, value-added taxes, the USA tax, and the flat tax, all of which have been discussed in The CPA Journal in recent years. But there are other forms of taxation that may become politically popular in the future, including "green" tax policy concepts and transaction taxes.

A new arrival on the national tax policy scene is the Global Institute for Taxation (GIFT), the brainchild of St. John's University tax Professor Patrick R. Colabella. At GIFT's first conference, "Taxation Alternatives for the 21st Century," an impressive number of highly creative proposals were presented, several of which tap into societal trends that may well gain momentum over the next century. The proponents believe that, by so doing, they can overcome many of the shortcomings of the existing system and the alternative systems discussed every four years, such as a flat tax, national sales tax, or value-added taxes. If their logic is sound and the mood of society is right, their tax policies may become politically popular and even see the light of day in legislation.

Eco-Taxation

However much observers quibble about the quality of the science and the accuracy of the statistics underlying many environmentalists' dire predictions, the fact remains that the environmentalist outlook has taken root in the United States. Stroll through a typical elementary school and observe the projects on display or visit the local zoo and study the information presented on rainforest conservation. The environmentalist message has entered the mainstream.

The environmentalist movement, which has traditionally focused its agenda on preservation and conservation through direct legislation, is now generating tax policy proposals.

At the GIFT conference, Alanna Hartzok, United Nations NGO representative to the International Union for Land Value Taxation and Free Trade, presented "Financing Local-to-Global Public Goods: An Integrated Green Tax Shift Perspective," a paper on green taxation. Her proposal is replete with political slogans such as "tax waste, not work," "tax bads, not goods," and "pay for what you take, not what you make." The slogans illustrate Hartzok's preference for environmental and land-based taxes over taxes on income, capital, and consumption of necessities. If realized, this preference would result in a "green shift"--a tax policy shift from current approaches that tax "private wealth" to a policy that taxes consumption of "common wealth," such as air quality and mineral resources.

Under Hartzok's proposal, tax cuts on income and capital gains taxes would be offset by new or additional taxes (or user fees) on some or all of the following:

* Emissions into air, water, or soil
* Surface land sites, according to land value
* Public lands used for timber, grazing, and mining
* The electromagnetic spectrum
* Geo-orbital zones
* Depletable natural resources such as oil, natural gas, and minerals
* Ocean fisheries
* Water resources.

In addition, this proposal would reduce or eliminate current subsidies deemed "no longer necessary, environmentally or socially harmful, or inequitable or unfair," including subsidies for the following:

* Energy production
* Resource extraction
* Waste disposal
* Agriculture and forestry
* Private transport and the infrastructure it requires
* Investments designed to exclude labor from production.

The claimed advantages of green-shift taxes are that they are cheap to collect, fall as clearly and directly as possible on the ultimate payer, embody no favoritism or special exceptions, correspond to the payer's ability to pay, and do not bring about undesirable economic distortions.

An interesting example of a green tax shift is the Alaska Permanent Fund, which takes a portion of the revenues earned off Alaskan crude oil production and uses it as follows:

* Applies a part to education and public works,
* Returns a part to the citizens of Alaska, and
* Invests the remainder in a portfolio of stocks to generate income after the resources are depleted.

A similar approach suggested by Peter Barnes in "The Pollution Dividend" (American Prospect, May­June 1999) would be based on use of the atmosphere. An entity he dubbed the "Sky Trust" would charge those that use the atmosphere by releasing carbon dioxide (and presumably other pollutants) into the air.

Hartzok cites another example: the proposal by the Northwest Environment Watch (NEW) to restructure the tax systems of the states in the Northwest and along the Canadian border. Currently, taxes on business, income, and sales amount to 47% of that region's tax revenues. NEW proposes to reduce this amount to 16% and make up the revenue through new or increased taxes on pollution caused by carbon usage and traffic and consumption of hydropower, water, timber, fish, and minerals.

Under NEW's proposal, a pure land tax would replace the property tax; that is, the value of buildings and improvements is excluded from the tax base.

Hartzok sees land taxes as presenting two advantages:

* Shifting taxes off buildings encourages construction and improvements, and
* Taxing land value alone discourages land speculation and poor site use.

Hartzok's motives in supporting her green-shift tax proposals are clear. She wants to preserve the environment through tax incentives and correct inequities she believes have been caused by the free enterprise system. Both motives raise any number of charged political questions. Whether the green shift occurs will depend upon the extent to which the assumptions underlying environmentalism are adopted by the electorate.

Cyber-Taxation

Another innovative tax policy area hinges on the use of computers in commerce. Now that the Y2K bug appears to be behind us, tax legislators' attention may be focused on cyberspace. Cyber-taxation would encompass sales and use taxes on Internet transactions. Federal legislation, however, has ruled this off-limits for the present (and some proposals would ban Internet sales taxation permanently), so as not to discourage use of the Internet as a fledgling distribution channel.

Other cyber-tax policy concepts are surfacing. Three papers at the GIFT conference addressed this area.

The earliest of these cyber-tax proposals is the "debit tax" of Leonard Crisp, who in 1992 stated his concept as follows:

The debit tax formula simply states that a small percentage ( Qd of 1% is suggested) be added to the amount withdrawn from all accounts held in trust by banks and other financial institutions and deposited instantly when cleared into the national treasury.

Since 1992, Crisp's concept has remained constant. However, the paper he presented to the GIFT conference, "The Debit Tax System of Taxation," proposes a tax rate of .05%. The debit tax would be programmed to operate automatically. Whenever a depositor withdrew money from a bank account, an additional sum, equal to the amount withdrawn times the tax rate, would be electronically transferred to the Federal government. For example, if Smith wrote a $2,000 check to his mortgage company, an additional $10 would go via EFT (electronic funds transfer) to the U.S. Treasury when the check cleared.

Crisp describes the system as "foolproof, just, equitable, simple to operate and to enforce.... Unlike tax systems that are based on the ability to pay principle, a tax system based upon an intent to use is not subject to corruption by any bureaucratic entity." [Emphasis in original]

Crisp's description of his tax tends toward the utopian, as his paper readily admits. But St. John's University Professors Colabella and Richard Coppinger translate the concept into the real world in their paper, "The Withdrawals Tax." The withdrawals tax, or WTX, would provide revenue to both the Federal and state governments and would substitute for the present taxing system. Colabella and Coppinger admit that their proposed composite rate of 5% (3% to the Federal government and 2% to the state government) is pulled out of the air. They argue, however, that a detailed analysis of the banking system and some currently inaccessible databases (presumably Treasury databases on estate and gift taxes and corporate transactions) would yield a rate that would make the WTX revenue neutral.

The WTX would be collected by the debiting bank and shifted via EFT to the government's account. The bank would not be permitted to complete the debit if there were insufficient funds to also pay the tax.

Items subject to the WTX would include the following:

* Check withdrawals and cashing
* ATM or cash withdrawals from a checking or savings account
* Interbank transfers or wires of money directed by an individual for any purpose
* Title transfers by gift and distributions of property from estates and trusts at fair market value
* Distributions from trusts in cash.

The following would be excluded from the WTX:

* Credit card purchases
* Cash advances
* Use of credit lines
* Disbursement of bond and mortgage proceeds
* Transfers to similarly titled accounts (rollovers)
* Transfers to trusts
* Transfers of cash and property to controlled entities
* Transfers of cash or property to a wholly owned subsidiary
* Letters of credit.

Thus, charges to a credit card would not be taxed, but payment of credit card bills would generate a tax. This distinguishes the WTX from a consumption tax. Certain transactions outside the banking system--gifts and corporate liquidations and reorganizations--would require special rules to bring them within the WTX.

Under the proposal, the following commercial transactions would be taxed:

* All business operating expenditures made in cash or by cash equivalents, including boot on exchanges
* All transfers of cash or cash equivalents that are not rollovers
* Payments of all dividends
* Retirement of debt paid in cash or cash equivalents.

The academic community has taken an interest in the WTX since its introduction in 1996. Criticisms of the proposal have included cascading (certain economic events being taxed more than once), vertical integration, bartering, offshore evasion potential, use of currency to avoid the banking system, and, of course, general fear of change.

Colabella and Coppinger addressed these criticisms in their GIFT paper, arguing that the use of currency to avoid the tax would be no worse than the current problems the income tax system has with the underground economy. They add that currency transactions currently constitute only 3% of all transactions, implying that tax evasion by avoiding the banking system would begin from a very low starting point. Their response includes currency redesign concepts to create "perishable" currency through the use of a magnetic strip. They also point out that, in the future, credit cards, debit cards, and other money substitutes such as "smart cards" will increasingly replace currency.

Although Colabella and Coppinger admit that cascading would occur, they say that it would create less mischief under the WTX than under an income tax regimen because of the WTX's lower rate.

University of Wisconsin Professor Emeritus Edgar Feigel presented the third cyber-tax paper, "Taxation for the 21st Century: The Automated Payment Transaction (APT) Tax." Feigel believes the tax rate would be 0.37­0.72% and for purposes of discussion uses 0.5%.

The distinguishing characteristic of the APT tax is that both sides of the transaction--credit and debit--are charged the tax. Feigel notes that in a free exchange, both buyer and seller perceive they have benefited from the transaction. Theoretically, this perceived benefit is what is taxed. From another perspective, Feigel argues that the state provides a vital and necessary service by facilitating exchange--providing a state-sponsored medium of exchange and establishing a system of laws to protect property and minimize fraud.

Feigel also addresses the ability-to-pay concept. He notes that wealthier individuals have a disproportionate amount of wealth and would therefore bear a disproportionately larger portion of the APT tax. Feigel addresses the concern of currency use and hoarding by charging a multiple of the normal tax rate when currency is withdrawn. He argues that currency is generally used in a number of transactions between the time it is removed from the banking system and the time it is redeposited. Therefore, a larger tax should be charged upon withdrawal, which has the added design benefit of discouraging currency withdrawal in the first place.

Observations

Several key advantages are apparent from the cyber-tax proposals cited:

Implementation is much less problematic. With the flat tax and the USA tax (two fundamental tax reform proposals that Congress floated in the mid-1990s), the current income tax system must be completely abandoned in favor of the new system. This requires a leap of faith that the new system will raise sufficient revenue without creating chaos as the economy adjusts to the new signals sent by the modified tax structure. Congress anticipated that some of these signals would be so earth-shattering that it included complicated transition rules in its proposals.

For instance, a change from the current system to a consumption tax such as the USA tax would have had a punishing effect on the elderly, who paid large tax bills under the current tax system while building their wealth and who, after implementation of the consumption tax, would pay large tax bills while consuming their wealth as well.

These cyber-tax proposals are different. The current tax system can be kept in place while banks reprogram and test their computers. The rate could begin at a truly miniscule rate of .001% (or lower) during this test phase, so that almost no taxpayers would be taxed during implementation and real numbers could be developed to assess how well the tax was working and what rate would be needed to maintain current tax revenue.

Also, the Federal government could practice real-time cash control. If on February 29 Congress decided that it needed more revenue, it could change the rate effective March 15 and revenues would be received almost immediately.

These cyber-taxes are very predictable and visible. If you want to buy a car that costs $20,000, you know that you'll need a percentage of it to pay the tax, just as you do now for sales tax. Every month your bank statement would inform you how much tax you paid that month, and depending upon the implementing legislation, perhaps also year-to-date taxes.

Tax administration would be nearly automatic. Under these cyber-taxes, a 100,000-person IRS would be unnecessary. A clear downside for tax practitioners is that taxpayers would have absolutely no need for tax compliance services, and tax planning would be minimal. As a result, CPA brainpower would probably switch to financial planning, business consulting, and other services.

All of the current tax deductions and credits would go by the boards. This would be a plus for many, but a negative for those inclined to do social engineering through what policy wonks like to call "tax expenditures." The opportunity for social engineering would therefore shift to the appropriations process. (And the Budget and Appropriations Committee chair would become more powerful than the Ways and Means Committee chair.)

Life Without Income Tax

This brings us back to eco-taxation, which may be highly compatible with cyber-taxes and could be the last wave of social engineering to be accomplished through the tax system.

The green shift that Hartzok describes does not need an income tax system in order to work, and, as noted earlier, it is not intended as a substitute for a comprehensive income tax system. Many of the eco-tax concepts that the environmentalists have floated are rooted in excise and property tax concepts. Also, to the extent that cyber-taxes replace the current deduction system, they also reduce the incentives environmentalists find so offensive, such as mineral depletion deductions.

Whether these tax policy proposals begin to gain momentum depends on the political will behind fundamental tax reform and the willingness of the political establishment to surrender the never-ending tinkering with the tax system in response to constituent demands. In any event, if a green shift or a cyber-shift--you heard that one here first--is in store, it will be a long-term proposition, leaving CPAs the necessary time to make the transition. *


James A. Woehlke, LLM, CPA, is counsel and director of the technical services division for the NYSSCPA and technical editor (taxes) of The CPA Journal.


The author acknowledges the help he received in understanding cyber-taxes from computer consultant John Gunther, of Bucks vs. Bytes, Inc. (Rosendale, N.Y.), who has been advocating tax proposals similar to the debit tax and withdrawals tax for over a decade.



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