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Attorney Submits Plan to Eliminate Corporate Taxation, Raise Top Tax Rate

DEC. 12, 2005

Attorney Submits Plan to Eliminate Corporate Taxation, Raise Top Tax Rate

DATED DEC. 12, 2005
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December 12, 2005

 

 

Mr. Eric Solomon

 

Acting Assistant Secretary (Tax Policy)

 

Department of the Treasury

 

Room 3120

 

1500 Pennsylvania Avenue, N.W.

 

Washington, D.C. 20220

 

 

Re: Feasible, Revenue Balanced, Politically Popular Tax Reform Proposal to Stimulate and Protect the Economy

Dear Mr. Solomon:

I offer for your consideration a proposal that I believe would do wonderful things for the economy, and that would be politically feasible to enact. The proposal is simply to enact a dividends paid deduction to, in effect, eliminate corporate taxation, with the revenue effects offset by a set of very simple changes that would ensure that the shareholders pay appropriate tax at their level, plus the introduction of a new bracket of approximately 55% on those taxpayers with AGIs in excess of $1MM, exclusive of lottery winnings. This would cause the U.S. to be a WTO compliant tax haven, encouraging both U.S. and foreign corporations to locate all of their high value activities within our borders. It would immediately boost the value of shares held by working people in their IRAs, 401(k)s and mutual funds, increasing retirement savings and good feelings. It would go in the direction of better balancing the distribution of wealth, addressing the serious concerns raised by Alan Greenspan and others regarding the effects of over-concentration of wealth in the non-consuming class. Finally, it would be a dramatic, simple action that could actually be enacted in 2006.

More specifically, I would propose the following revenue offsets. I have worked through rough numbers based upon the OMB's tax expenditure report for the 2005 budget and the IRS Statistics Of Income Bulletin regarding 2003 tax data, and I believe that this would properly balance, but I lack ready access to the degree of detail needed to fully vet the proposal. I would propose to eliminate the capital gains preference, the dividend preference, the step-up in basis at death, and the preference for gains on small corporation shares. These steps ensure that the shareholders will, sooner or later, pay tax at their normal rates on their share of the corporate income, thus allowing the progressive tax system to operate in its intended manner. These changes would leave a tax gap of roughly $69 billion, which could be plugged by instituting a new tax bracket of about 55% upon taxpayers with AGI in excess of $1MM, excluding lottery winning. I would enact the bracket in precisely that manner -- an incremental 20% tax on AGI in excess of $1MM, without deductions -- in order to keep it simple and prevent evasion. (Such a bracket would be far short of confiscatory, and experience shows that it would not be bad for the economy. During the boom years following World War II, America had a top bracket as high as 91%.) That's it. The entire bill could be two pages long.

The advantages to this proposal are numerous:

1) It would make the U.S. extremely attractive as a corporate headquarters/job location. U.S. corporations would then actively wish (from a tax perspective, at least) to repatriate cash and reinvest earnings at home, and would wish to develop their future intellectual property and house their management, support, manufacturing and service functions here. Foreign corporations would likewise have incentive to invest and place their income earning functions in this country. No alternative change would produce that result to the same degree.

2) It would eliminate double taxation on corporate earnings more effectively than alternative proposals. The current system, which primarily benefits direct shareholders, leaves significant ultimate double taxation on working investors who invest through IRAs, 401(k)s, and mutual funds.

3) It would eliminate the economically distorting distinction between debt and equity funding, encouraging more stable financial profiles. Because both interest and dividends would be deductible, corporations would no longer be encouraged to take on heavy debt loads, which should reduce bankruptcies.

4) It would encourage the pay-out of surplus funds as dividends and thereby increase the capital efficiency of the overall economy, Rather than having a corporation reinvest cash in the most attractive investments available to it, the cash would be placed into the hands of investors where it could flow to the most attractive opportunities in the overall economy.

5) It would put regular folks who, again, do their savings through pension funds, 401(k)s and IRAs and mutual funds on a fully level benefit basis with the elites who do their savings through direct investment in corporate stock (and therefore benefit disproportionately from the favorable tax rates on dividends and capital gains). Responsible working Americans, those who do their best to save for their families and retirement, would receive their full share of the benefits. They would also likely benefit in the form of higher wages and lower prices, since the true incidence of corporate taxation is thought to be spread amongst a combination of investors, employees, and consumers (See GAO report Understanding the Tax Reform Debate at page 31).

6) Importantly, the combination of higher investment returns and higher taxes on individual direct investment income would significantly increase their incentive to save for retirement, since it would amplify the benefits of the existing tax advantaged retirement savings vehicles. This could be expected to reduce America's future retirement income problems.

7) At present, U.S. corporations are disadvantaged in competition with corporations that are based in countries that either have lower base corporate tax rates or have territorial tax regimes that exempt foreign source income. In mergers of near equals, the U.S. corporation will routinely lose out, resulting in the elimination of prime U.S. jobs -- this proposal would reverse that imbalance, making the U.S. corporation the advantaged party. In bidding on acquisitions or new ventures, U.S. corporations currently are disadvantaged due to the high tax burdens in their economic models -- this proposal would reverse that imbalance as well. The dividends paid deduction could be expected to be more effective than any alternative reform, including territorial taxation, at eliminating tax as a distorting consideration in business decisions.

8) The U.S. cannot and does not wish to compete on the basis of cheap labor. We must compete on the basis of rate of innovation. Various foreign countries provide very attractive R&D regimes, and as foreign university education rates grow the ability of the United States to compete in this realm is fading, as is demonstrated by the rapidly falling proportion of scientific papers that originate in the United States. U.S. tax policy should avoid penalizing U.S. technology ownership. The 100% dividends paid deduction would accomplish that objective.

9) The considerable resources expended on U.S. corporate tax compliance could be largely liberated to more productive pursuits -- an important simplification benefit. On the other hand, because the existing corporate tax system would be retained with the tax deduction only applying when dividends are paid out and taxed to the recipient, the proposal would open no new channels for abuse.

10) Alan Greenspan recently joined the growing numbers of observers who believe that the growing concentration of wealth in America is damaging to our economy and our democracy. It is damaging to our economy in that, among other things, concentration of wealth takes funds out of the hands of those who tend to spend most of their income on consumption and places it into the hands of those who can't feasibly spend as much as they earn. Given that our economic malaise is one of inadequate demand, not inadequate capital or production capacity, this is a significant problem. The proposal would, in a modest and conservative manner, help to slow the pace of concentration, with the benefit again flowing to those hard working Americans who are responsibly attempting to invest to achieve their dreams.

Thank you for your attention. I would be more than happy to address any questions you may have.

Sincerely,

 

 

Matthew A. Lykken

 

Tax Attorney

 

Wheaton, IL
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