Reflections on Reform

A CPA Journal Panel Discussion on the SET Tax Proposal and Report of the President’s Advisory Panel on Federal Tax Reform

E-mail Story
Print Story
FEBRUARY 2006 - In 2005, the NYSSCPA established a special Committee on Practical Reform of the Tax System, chaired by David A. Lifson and comprising Joseph L. Charles, Alan J. Dlugash, Robert Goldstein, Laurence Keiser, Leon M. Metzger, Stephen A. Sacks, and Maryann M. Winters. The committee was charged with developing a policy for the reform of the U.S. tax system, and its work culminated in the SET Tax, a simple, exact, and transparent alternative to the current tax system. The paper was adopted as an official policy position of the NYSSCPA, and it appears in its entirety in this issue, beginning on page 14. Since its adoption, the proposal has been discussed in interviews with CNBC, “ABC World News Tonight,” NY1, Bloomberg News, Forbes, Fortune, Newsweek, BusinessWeek, the Wall Street Journal, the New York Times, the Washington Post, the Financial Times, and Accounting Today.

In the panel discussion that follows here, committee members explain their work on the SET proposal and their reactions to the Report of the President’s Advisory Panel on Tax Reform, released in November 2005 (Analyzed in a separate article on page 42). The panel discussion, on November 18, 2005, also included the chair of the NYSSCPA’s Tax Division Oversight Committee’s Tax Policy Subcommittee, Richard Hecht, and was moderated by Louis Grumet, NYSSCPA Executive Director and Publisher of The CPA Journal.

A Measuring Stick for Tax Reform

Louis Grumet: Recently, the Panel that was appointed by President Bush to look into tax policy and the entire tax system completed its task, announcing two alternative proposals: the Simplified Income Tax Plan [SIT] and the Growth and Investment Tax Plan [GIT]. The provisions for individual income taxes are similar, but they differ significantly in their treatment of dividend, interest, and capital gains income, as well as the treatment of businesses. The Panel’s conclusions would represent a significant change to the Tax Code, but I leave it to this group to discuss whether those changes would be good or bad, fundamental or incremental in nature.

Most of the people sitting around this table spent months developing a measuring stick against which to view those proposals. The NYSSCPA’s Committee on Practical Reform of the Tax System called the resulting proposal the SET [Simple, Exact, Transparent] Tax. What do you think of the conclusions the Presidential Panel came to, and how do they compare to the conclusions this committee came to?

Laurence Keiser: I think to get to this type of tax reform the Presidential Panel had to first conclude that a consumption tax or a VAT [value-added tax] was not going to work. At that point, they decided to focus on changing and simplifying existing law.

Grumet: Why wouldn’t a consumption tax work?

Robert Goldstein: Because it’s terribly regressive. In 2001, Pamela Olson, who was then Deputy Assistant Secretary of the Treasury for Tax Policy, did a good analysis of the varying tax systems. The analysis looked at the existing tax system, as well as alternatives, including consumption taxes like the “traditional” flat tax, a national sales tax, and a VAT, which is a sales tax of sorts. Olson demonstrated that every country in Europe that had a value-added tax also had an income tax because the VAT rate became extraordinarily high if it was to replace the income tax. I think her analysis also clearly demonstrated the regressive nature of consumption taxes. It seems common sense that somebody making several million dollars a year spends a lower percentage of their income on necessities than someone making $40,000 or $50,000 a year. I think this committee—and the President’s Panel—therefore came to the conclusion that consumption taxes alone wouldn’t work.

Alan J. Dlugash: Although I agree that we came to the conclusion that reform based on the current income tax was the way to go, it is not clear to me—and I don’t think it was clear to the President’s Panel—that consumption taxes may ultimately turn out to be better. A concept such as the “Fair Tax,” [a respected version of a consumption tax] really focuses on the regressivity and adequately deals with the issue. But a consumption tax certainly would be such a major change from the current system that, even if it was decided that a consumption tax was the better way to go, getting there would be very difficult. But I don’t think we should dismiss it out of hand; the concept bears looking into for the future.

Joseph L. Charles: I think the big issues with a consumption tax were the uncertainty and the costs to transition from one system to another. Another thing is that the economists and other experts say that our system is still the envy of the world, in terms of our 85% compliance rate. [Although it is very difficult to estimate, the IRS puts the noncompliance rate at 17.5% to 20.1%; 15% is the generally cited figure from a recent study.]

Goldstein: In most countries, you end up with a negotiated rate and a negotiated level of compliance—and I don’t mean just Third World countries.

Grumet: How does the SET proposal compare to a flat tax?

David A. Lifson: The so-called “flat tax” proposals have been attempts to broaden the base and eliminate deductions. The SET Tax system is a single-rate progressive tax system. It allows you to tax lower incomes at effectively lower rates by excluding a portion of those incomes from the single tax rate. A SET Tax system is not a flat-tax system within the jargon of tax reform, or a flat tax as is generally understood by the public. Most flat-tax proposals studied by the President’s Panel and the press are efforts to increase the tax base and lower the tax rates, which tends to create a more regressive tax system.

Grumet: Perhaps this is oversimplifying it, but what the SET Tax does is exclude lower-income people through personal exemptions, but taxes the income above some level at a single rate.

Lifson: Yes, but a close look would show there is a gradation in the effective tax rate, just like with our current tax policy, but there is no gradation in the tax rate itself. For example, 50% of income at a certain band might be excluded, effectively creating a third, 17.5% bracket (along with a 0% and a 35% bracket), but through an exclusion rather than through a rate table. The whole principle of this flat-tax system is to change the complicated calculus of today’s system by simply using the single, highest rate to tax all taxable incomes—call it 35%, to emulate the current tax system—and to create progressivity by excluding portions of income to replace the multiple rate tables and
filing-status decisions.

Dlugash: I would like to focus on the differences, because I don’t like totally dissociating with the flat tax. The concept of a flat tax is generally associated with the concept of fairness, because of the lack of deductions and special benefits, and that is part of the SET Tax system as well. I don’t perceive regressivity or progressivity to be a difference, because in both the flat tax and the SET Tax that can be adjusted.

There are different kinds of flat taxes. The big difference between the SET Tax and more traditional flat taxes is that with the SET concept we’re not proposing that deductions of any sort not be allowed. The SET Tax has the same transparency as a flat tax, but our system has built into it the possibilities of deductions and different rate schedules, a flexibility that the flat tax was not intended to have. If the SET Tax were taken in a very libertarian direction, with no deductions, then it would look like the flat tax.

Goldstein: In other words, the SET Tax is a transparent system with a single tax rate that is adjusted through exclusions to achieve progressivity—whereas the traditional flat tax as proposed by Steve Forbes has almost no adjustments and therefore a much higher rate of regressivity.

Charles: Because our committee was named the Committee on Practical Tax Reform, we wanted to submit a proposal that provided some flexibility, so that Congress would look at it and realistically consider it.

SET Exclusions and Achieving Fundamental Reform

Grumet: Explain the exclusion concept in the SET Tax and contrast it with the Presidential Panel’s proposal, because that’s a core difference.

Lifson: The President’s Panel left in place the entire tax system and simplified the elements of it. Frankly, they made a noble effort. Had they “sugar-coated” their proposal by replacing the current system with a simpler, SET-type tax system, the Panel would have been able to promote profound, long-lasting change. They did much of the heavy pruning that the Code desperately needed; all that’s left is to encase it in the SET system and debate the final details! The combined changes would surely last for a long time, and give the American public a transparent system with easy-to-follow ground-rules for making further changes.

For example, with every tax policy change they proposed—such as simplifying the many forms of retirement benefits into one or two accounts—the Panel did the heavy lifting. If they had put those simplified solutions into the SET Tax system as exclusions, then when somebody goes to change the policy next year, it would be a transparent change that everybody can understand.

Goldstein: I agree with David; I think the President’s Panel took the existing tax system and modified it. They simplified it, but the existing tax system remained the basis. They didn’t change the basic philosophical approach to the tax system. Conceptually, they fell down on that.

Richard Hecht: I disagree. When you look at the tax changes to dividends, capital gains, and interests, those were major, fundamental changes.

Goldstein: I agree that they’re significant changes, but they’re not much different than the changes introduced in the 2001 and 2003 tax acts. The Presidential Panel’s proposal would be a radical change, but it would not be a conceptual change. Some changes would be for the better, such as the simplified retirement and savings accounts, but it’s still just tinkering with the existing system.

Dlugash: It includes a lot of steps in the right direction; it moves toward simplification and fairness. That said, certain principles need to be more sufficiently addressed. Even if the SET Tax is not going to be adopted in the short term, we can still have an impact. If something incorporating some or all of these principles is going to go forward, we should try to influence the process. The sad part of the President’s Panel is that it could have put the exact same tax law in effect through a SET framework that would have been more simple, more transparent, and easier to change—all of the pluses, none of the minuses—and the Panel dropped the ball.

The Cost of Citizenship

Grumet: Can you explain the decision in the SET system to tax all income at a single rate?

Lifson: By choosing the highest rate rather than the lowest rate, we’ve provided for a progressive tax system through exclusions of income. Through the exclusions we created rate tables, we created deductions, we created exemptions, we created everything that the current tax system does—but we did it all in one place, so that for 75% of the population, the calculation should be reasonable and appropriate. Filing your taxes should be no harder than passing your driver’s test.

Grumet: What you’re saying is that taxes are a cost of citizenship. And as a cost of citizenship, it should be understandable to and participated in by everybody.

Lifson: As we envision it, everybody has to fill out a form, whether they owe money or not, and the reason is so that everybody can see their share of the cost of government. Quite transparently, by the use of exclusions, everybody would be able to understand what benefits they are receiving from their government—in other words, what income is not being taxed. Taxpayers beyond a certain income level should indeed be able to figure out a complicated exclusion to account for a complicated financial event. But for the bulk of taxpayers, the SET system really is an extraordinarily transparent way for the Congress to make whatever social decision it wants.

For example, if somebody wants to start a business in a foreign country, the exclusion on taxing income of their foreign business would be quite complex, as it is under the current tax system. Unless it’s not Subpart F income, income in a foreign corporation would be completely taxable. So, under the SET system, you would keep the same rules for foreign income, you would just turn them 180 degrees. But if they engaged in complicated behavior, they should be able to factor the tax consequences into their decision-making process. On the other hand, things like simply buying or selling a house shouldn’t be too complicated, and tax benefits delivered through the system to homeowners should be easy to measure and understand.

The SET system has no tax-policy goals. It is tax-policy transparent. It is simply a mechanical approach to make tax policy visible. You could create all these exclusions to emulate the current system, and, in doing so, analyze what in the current system doesn’t work, like the President’s Panel did in some areas, and you come up with a system that’s self-policing and self-enforcing.

Goldstein: You would see the benefit and how much the government is spending on, for example, subsidizing higher-education costs through the Tax Code. It just makes it more flexible, because if you want to stop subsidizing higher education, all you have to do is remove that exclusion. The effect becomes transparent. In contrast, the Presidential Panel did not address the philosophy behind the tax system. Their approach was more tactical than strategic.

Red States and Blue States

Grumet: Both the Presidential Panel and the SET proposal dealt with the alternative minimum tax [AMT]. How did they deal with it, how did you deal with it?

Goldstein: To make tax reform revenue-neutral, the only thing that balances the AMT in terms of magnitude is the state and local tax deduction. The Presidential Panel said, Take away the AMT, which is worth 28% to affected taxpayers, but also take away the state and local deduction, which is worth 35%.

Dlugash: Because the removal of the AMT in the Presidential Panel’s proposal coincides with the removal of most of the deductions that would trigger the AMT, figuring out the exact impact is difficult. But I think it is clear that the people hurt by the AMT will be hurt by the Presidential Panel’s system to a similar degree.

Lifson: I think they attacked the AMT problem head-on. They figured out that the AMT was basically eliminating the tax savings from the state and local deductions of wealthy people in high-tax states. So they said, We’ll eliminate both the AMT and the state and local tax deduction. People in New York and California would disproportionately benefit from eliminating the AMT, but they would disproportionately suffer from the elimination of the state and local tax deduction.

Hecht: I think the Panel has essentially taken the AMT and made it the regular tax! What is underlying is that this is a choice that Congress made three years ago when they had a choice to either remove the AMT or lower the tax rate on dividends and capital gains. Congress chose to lower the rate on dividends and capital gains. As result, today it’s said that we can’t afford to do away with the AMT because of the tax revenue it would cost. When the Presidential Panel looks at tax reform, that reduction in the tax rate for capital gains and dividends is left untouched, and they look at how to recover that revenue in a different way.

Goldstein: I disagree, I don’t think it had to do with the AMT. I think the rate reduction on capital gains and dividends was part of this major drive to reduce the taxation of invested capital and the double taxation of dividends. The only item large enough to offset doing away with the AMT has always been the state and local tax deduction. But in terms of moving along the capital gains path, what the Presidential Panel has done is fascinating.

Charles: Another interpretation is the fairness in the elimination of specific deductions. Even the home mortgage interest deduction, which I don’t think will be entirely eliminated for economic reasons, is under consideration. Reducing the home mortgage interest deduction creates a more level playing field for renters versus homeowners, even though its effect across states would be controversial.

Keiser: The implementation issue is also a big one. I hate phase-ins, but to say you can deduct your mortgage interest in 2007 but not in 2008—people have made certain economic decisions based on the existing tax law, and you can’t just yank the rug out from under them.

Dlugash: There are really two issues to address. By having a deduction for state and local taxes, states that have chosen to be conservative in their spending, and therefore have lower tax rates, are effectively subsidizing states that have decided that they want more public expenditures, and therefore have higher tax rates. Why should people who’ve decided to be austere in their public spending have to subsidize people who have decided to have the government provide services? Yes, eliminating the deduction for state and local taxes would be an abrupt change from a policy that’s been in place for a long time, but conceptually, it’s not inappropriate.

In considering differences in tax rates, you also have to consider the differences in the cost of living across states. This is the most productive country in the world because we try to maximize profits and efficiency by reducing costs, by doing business in states and places where things are cheaper. It is difficult to start telling other states that they should subsidize us because we choose to live in a place that has a higher cost of living for whatever reason—at least some of it due to higher tax rates.

Goldstein: That’s counterbalanced by the fact that states like New York send more tax money to Washington than we get back.

Dlugash: That is a political decision having to do with who is politically in office at the time. It may balance out or not, but conceptually the two are unrelated.

Hecht: I have to take exception: 42% of the New York State budget [$44.5 billion of the $106.5 billion 2005/2006 budget] consists of Medicaid costs, a federally mandated program. So the federal government in fact has a substantial impact on the New York State tax system.

Grumet: But New York State’s rate of Medicaid spending and service delivery is vastly higher by choice. The federal government mandates that we have a Medicaid program, but New York has chosen a system of Medicaid spending, for better or worse, that is substantially higher than that in the rest of the country. [According to the New York Times, New York spends $10,644 per Medicaid recipient, as compared to $7,626 for the second-highest state, Pennsylvania.]

The two largest items in the New York State budget are Medicaid and public education [$16.2 billion for school aid in the 2005/2006 budget], upon which New York, New Jersey, and Connecticut have chosen to spend more than other states. [The top five, according to NEA estimates for 2004/2005, are: New York, $12,879 per student; Connecticut, $11,893; Vermont, $11,641; New Jersey, $11,502; and Massachusetts, $11,322; with a national average of $8,554.]

These things, for better or worse, have been viewed as a net positive. But I don’t want to argue the social policy. Alan is right, the social policy of New York was a choice, but other states haven’t chosen to pay for a generous public service system.

Lifson: New York and California contain a large concentration of “liberal” people, in terms of their attitudes toward the less fortunate in society. We have constantly had a stronger and more expensive welfare system and have been willing to fund it, whether that’s ultimately good for economic development or not.

Grumet: It’s worth noting, when talking about all the Panel’s proposals, that everybody will have pros and cons about different provisions, but the report is clear that the Panel did a lot of compromising to come up with a balanced plan. They encouraged readers not to harp on each piece but to look at the entirety.

Lifson: When looking at the sum total of all these various reforms—changing the home mortgage interest deduction, changing the health insurance exclusion, eliminating the deduction for state and local taxes—I had an idea: What if they had made enough changes with specific winners and losers such that, on average, people came out at approximately the same place—but imagine they also wrapped a SET system around it so that the system is more manageable?

It seems to me that it might be worth eliminating the state and local tax deduction in return for a stable federal income tax system that would not only be simpler but would also be more efficient. A system that wouldn’t be out of control in two or three years when more provisions are added. A system that might close that tax gap from 85% to 90% and help fund all the expenditures that are necessary to keep a government going.

Creating a Culture of Compliance

Grumet: What about compliance?

Goldstein: As we mentioned earlier, under the SET Tax system, everybody is going to be filing a return. When you file that return, even if you come to a zero tax at the bottom, you have made a positive, auditable affirmation of your income. Which is easier to find in an audit, the mistakes that are on the piece of paper or the ones that aren’t? In the SET system, you cut out the mistakes that aren’t on paper.

Grumet: How much tax revenue might that recapture?

Lifson: About $100 billion and growing—I’m guessing a third of the tax gap, which is expected to hit over $300 billion in the next five to 10 years. We know that we won’t get all of it, and we’re not going to capture the entire underground economy either, but the simple act of enumeration lends itself toward more sophisticated review, even of the deductions or exclusions claimed by taxpayers in the fifth quintile. Once you focus on that, you get a much more administrable system that is more transparent, for administrators, taxpayers, and tax-return preparers. It isn’t so much that it’s a lot simpler as it’s just a lot clearer. Complicated people are still going to have complicated stuff.
Hecht: I think a point in the SET Tax system bears repeating: If you have any income, you have to file a tax return.

Grumet: And it connects the people who earn the money to the government they elect and fund in a way that they are not connected today. If we believe in accountability, this is a win-win, administratively and philosophically.

Charles: Part of the compliance problem is ignorance and perceived complexity. For a lot of low-income taxpayers, those that can’t afford a paid preparer, tax filing is intimidating. It’s no different than myself being intimidated by fixing a car. We may just be creating another opportunity for noncompliance, not because people don’t want to pay tax but because of a perceived complexity.

Lifson: I think you have to create a culture of compliance. Once people realize that it’s simple and that by complying they won’t necessarily owe anything, and that they won’t get in trouble, I don’t think it will take long for people to figure it out. But as long as you retain what the Presidential Panel has retained—if you don’t put the simplicity of the SET system around it—compliance will continue to be a problem. That’s why fixing the system itself, not just the elements of the system, is so important.

Fairness

Grumet: Fairness was one goal of the Presidential Panel. Do you think the changes in its proposals achieve that?

Hecht: I don’t necessarily think so, given both plans’ provisions for preferential treatment of dividends, capital gains, and interest income. Why should income earned by one person be treated differently than income earned by another?

Charles: I agree conceptually, but I think their justification is the double taxation of corporate dividends.

Keiser: I’m not troubled by the double taxation of corporate earnings. If a company makes money and distributes dividends, it’s income for me. If I’ve got the capital, and the choice, of course I would invest in companies that produce dividends and pay less tax than on the income that I earned from the sweat of my brow. And I find that more offensive than the double taxation of corporate earnings. I believe there should be some incentive for capital growth, but to tax capital gains at only
8 Qf % [under SIT, for taxpayers in the highest bracket]?

Hecht: Why not give the corporation the deduction for it? That puts everyone on the same footing. If you have $10,000 of income and I have $10,000 of income, we should be paying the same tax.

Lifson: I have a hypothetical proposal then: Why not just disallow the deduction for interest expense and put all corporations on equal footing? Or eliminate the corporate tax entirely? If you think that the beginning and end of taxation is personal income, then, yes, people should pay exactly the same tax on dividend income as earned income or interest income. But to avoid being taxed twice, this would mean either disallowing the deduction for interest—so that debt would be put on the same footing as equity capital within a business—or it would mean not taxing corporations at all.

Hecht: I think that much of the GIT proposal, the expensing of investment other than land and buildings, could effectively do that. I don’t agree with it, but if you’re going to tax the individual on the interest income they earned on debt of the corporation, then you probably should allow the corporation to deduct interest expense.

Grumet: Why have capital gains traditionally been taxed at lower rates than other income?

Dlugash: Let me illustrate by a personal example: My father bought a house in 1948, and sold it in 2004 for many times his original purchase price. In truth, he had no gain at all; the value just kept up with inflation. So, conceptually, the reason for taxing capital gains at lower rates was that capital gains are in some ways not gains at all. Now, if the price of a stock doubles in 12 months, that really is a capital gain, whereas if the value of a home doubles in 20 years, that owner actually lost money.

Another reason to tax capital gains at a lower rate is to incentivize economic growth, to reward individuals for taking on economic risk. Right or wrong, that is the rationale. I happen to think that—for those reasons, and because I don’t like the complexity of an alternative such as indexing—there should be some adjustment for capital gains. But it could be worked into the SET Tax simply and in an easy-to-understand exclusion.

Goldstein: I think that’s exactly what you have under the President’s proposal. You’ve got a benefit for the sale of corporate stock; an exclusion, probably justified, for the sale of a home. For most people, their home is the biggest investment they make in their whole lives. Politically, and socially, the government has taken the position that we ought not to deprive them of the benefit of that appreciation. What you’ve got under the Presidential Panel’s proposal is a 75% exclusion of gains from corporate stock. Yet if I owned a building or real estate, if I had taken the same economic risk, under the proposal, I would pay ordinary income tax rates.

Dlugash: I wasn’t trying to defend the proposal, just defend why, conceptually, capital gains should be treated preferentially. The tax law has too many deviations from the underlying rationale. Our biggest failing after the 1986 Tax Reform Act was that once the principles—equity, fairness, and simplicity—were laid out and agreed to, we sat by while tax law after tax law was passed, without a comment about how every single one of those principles was violated by every subsequent tax law.

Goldstein: This goes back to the earlier point that the Panel’s proposal dealt with the adjustment and simplification of the tax system, but didn’t overhaul it strategically or philosophically.

Lifson: The kind of complexity we’re talking about—being fair through inflation adjustments, through reduced effective tax rates for engaging in risky behavior like investing in stocks—is easily accommodated in the SET Tax system. The exclusion would be something that only a few people would have to calculate; there would be an exclusion you could look up for trading in common stocks based on the buy date and sell date, and that would incorporate inflationary gain.

So the SET Tax could accommodate tinkering and complexity transparently that would only be used by people whose situations require it. Because the Presidential Panel worked within the existing structure, they had to do a very rough justice and create winners and losers on the fringes.

In the SET system, rather than introducing complexity to even out outcomes, complexity is reserved for specific, unique circumstances. If Congress wants to provide an economic benefit for X, those few people who wanted to engage in X-type investments or transactions can claim that exclusion. They’d know about it, and know how to calculate it on the “X subschedule.” It would be easy to monitor, easy to comply with, and appropriately complex for people who choose to engage in complexity. It would represent a tax policy decision, and when that decision is debated and chosen, it should be something completely transparent to the reporters and the voters.

Businesses

Grumet: How would the Presidential Panel’s proposals affect businesses?

Hecht: I would be interested in everybody’s reactions to the GIT proposal to expense all new business investment. What will the effect be? Is this effectively going to eliminate whatever corporate taxes are still paid?

Lifson: I don’t know that it will eliminate all corporate taxes, but it will eliminate the prejudice toward the intellectual-property industry versus manufacturing. The manufacturing sector has always been at a disadvantage, because their productive assets—plant and equipment—had to be capitalized and written off for up to 39 years, whereas companies whose productive assets are primarily intellectual property have generally been able to write off all their costs through operations or research and development. R&D has even been subsidized by credits. Microsoft’s balance sheet is a lot smaller than General Motors’.

There is a fundamentally favorable prejudice in the Tax Code for the intangible-dominated industries. If they allow all new investment in hard industries to simply be written off, then you’re putting both kinds of companies in those different industries on the same footing, and you might spur manufacturing in the United States. I don’t know if it’s right or wrong, I’m just espousing the logic behind expensing.

Goldstein: It also goes to the issue of simplification, aside from the economics. I don’t know if you’ve been through a depreciation guide lately, but it’s thicker than a Master Tax Guide.

Dlugash: But it does violate the concept of equity and fairness. When you start an enterprise, you incur certain costs to generate revenue, and your income that is taxed should be allowed a deduction of “ordinary and necessary” expenses. If it is necessary, rational, or preferable to do business by carrying a certain amount of debt with interest expense, that interest is a legitimate cost of doing business. I’m uncomfortable with any tax system that doesn’t include that principle. We’re losing sight of core principles. I know there have to be exceptions to any principle, but the question each time should be: If we are moving away from principle, is it worth it?

Goldstein: Another point worth mentioning, with regard to compliance: Under the Presidential Panel’s proposal, small businesses would calculate their taxes from their bank statements. It’ll be basically a cash receipts and cash disbursements system. But, to monitor this, the banks will be required to send bank statements—a summary of transactions, income, and expense—to the government. That plan sounds a bit scary.

Charles: That sounds like Big Brother. I think what the Panel was struggling with—what we struggled with, too—was how to increase that compliance rate to above 85%. Who’s not complying? It’s unincorporated businesses, and maybe the Panel asked, How do we identify what’s missing, how can we get some kind of cash reconciliation from an independent source?

Health Insurance and Social Security

Grumet: We haven’t really talked about one of the Panel’s most controversial provisions: the limit on the deductibility of employer-provided health insurance. When I first saw this I was horrified, because I didn’t want to see any taxes on health insurance. But what were your reactions?

Keiser: I was initially troubled. My first reaction was, Don’t we want everybody to have affordable health insurance? But the limit they chose—approximately $11,500 [for families; $5,000 for individuals], the national average, and roughly what Congressmen get—sounds pretty fair to me.

Dlugash: I think the current system can only be considered inequitable. You can get medical insurance as a tax-free fringe benefit if you’re employed. But if you’re unemployed, if your employer doesn’t provide coverage, or if you purchase coverage yourself, you get no deduction at all. The principle behind the Panel’s proposal is sound, and puts everyone on the same footing. They reduced the deductible amount available to covered employees, and they increased the amount—from zero to this same amount—for uncovered individuals. I don’t think the exact level is really the issue. The concept is excellent.

Goldstein: I think that analysis was excellent. The proposal comes to a median point where anybody can deduct up to this amount spent on health insurance, regardless of the source. If Congress wants to socially adjust that median level, if it’s too much or too little, it can be changed And everyone is treated equally.

Lifson: I agree, but there is something else behind this. The Panel did this because they believe, in theory, that if fortunate citizens had to fully pay for their health insurance beyond a certain level, the actual cost of medical care might go down because consumers would drive some decisions about medicalcare. I don’t know if it’s right or wrong, but I think that’s part of the thinking. And this thinking also applies to concepts such as health savings accounts; some economists think that our healthcare costs are too high because the pressures of capitalism don’t apply sufficiently to control costs the way they do in other areas.

An obvious disadvantage to this proposal, however, accrues to people in New York and California, where healthcare costs more than in Florida and Texas.

Grumet: One could argue that’s because New Yorkers made the choice to have more doctors—and more lawyers—than other states.

Lifson: And it can also be argued that, the same way the cost of health insurance exceeds the cost of steel in a General Motors automobile, the cost of liability insurance and legal fees may someday exceed the amount that goes to doctors when you pay your medical bills.

Grumet: Another controversial topic: Both the SET Tax and the Presidential Panel’s proposals shied away from Social Security. Could either have productively addressed the problem, and how?

Keiser: Until you decide whether it’s a welfare system or a pension system, you can’t address it. I don’t think the SET system, or the Panel’s proposal, could address the issue without an answer to that policy question.

Lifson: Once you address the tax policy issue, integrating Social Security into the regular tax system is straightforward. For example, under the SET system, you could have an exclusion equal to the amount of Social Security income everybody gets, which would convince most of the population that Social Security is never taxed.

Dlugash: Regarding the taxability of Social Security benefits: Social Security is fast becoming, and probably already is, the most highly taxed income that an individual can have: It is the only source of income where an individual pays tax directly on the return of capital. The original concept of taxing Social Security at the maximum rate of 85% was, to my understanding, originally intended because the average person contributed approximately 15% of the amount he would actually collect during his retirement years. As happened with the AMT, that principle went into effect, and years later it has been forgotten. Now when individuals will be getting little or no return on their investment, they will be paying tax on the privilege of getting back their own money.

Regarding the future of Social Security: What we need to focus on, and, as CPAs, what we should be explaining to the public, is that what we have now is a two-part system. First, we are paying a tax to the extent that we are funding retirement benefits for retirees who did not fully pay for their own benefits.

Secondly, we are paying into a system for our own retirement. But should this part be a tax, entitling us to some politically determined retirement benefit? Or should it be a personally owned retirement fund? I think that conceptual question is essential for people to understand, so that we as a country can make a rational decision.

Lifson: The Social Security system is actually two things: It is a tax that the wealthy people voted for because they were told it was a pension and savings account, and the poor people voted for because they were told it was a welfare system.

Keiser: I think the Social Security issue will fall from the current agenda, because I think the idea was to privatize the system. It was somewhat analogous to the transition away from defined-benefit retirement plans to defined-contribution retirement plans. When that idea didn’t gain traction, I think President Bush gave up on Social Security reform.

Grumet: As in most policy debates, we seem to have come all the way around to politics. Thank you all for this discussion, and, indeed, for your work over the last several months.


The Committee on Practical Reform of the Tax System represents the first step in the NYSSCPA’s taking an active role in the public debate over tax policy. One panel participant, Richard Hecht, chairs the new Tax Division Oversight Committee’s Tax Policy Subcommittee, charged with fostering and facilitating the development of tax-policy position papers for review by the Society board and dissemination to the public, the media, and government.

The Report of the President’s Advisory Panel on Tax Reform, and its SIT and GIT plans, represent a milestone in the discussion of major tax reform in Washington, but no one knows what form major tax reform legislation will ultimately take, whether it is enacted by this President and Congress or in the future. What is clear is that the debate will continue, and there is an opportunity for knowledgeable parties to educate the public and its elected representatives.

The Society leadership hopes to establish the profession’s credibility in matters of tax policy, and looks to the membership for their expertise in strengthening this ongoing role. Members that have something to say should be active in their committees and look to the Tax Policy Subcommittee for support in shaping an active role for the profession in public debate.


Editor’s Note: The opinions expressed by the panelists above are their own and do not necessarily represent those of their employers or the NYSSCPA.

The CPA Journal welcomes comments and feedback from readers regarding the issues discussed above; letters may be sent to the editors at CPAJ-Editors@nysscpa.org.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 



The CPA Journal is broadly recognized as an outstanding, technical-refereed publication aimed at public practitioners, management, educators, and other accounting professionals. It is edited by CPAs for CPAs. Our goal is to provide CPAs and other accounting professionals with the information and news to enable them to be successful accountants, managers, and executives in today's practice environments.

©2009 The New York State Society of CPAs. Legal Notices