In The False Promise of Presidential Indexation, which was recently published in the Yale Journal of Regulation, Professors Daniel Hemel and David Kamin have written an important article that considers whether the executive branch has the power to index capital gains for inflation. In addition to critiquing the measure as a matter of policy, the authors make a persuasive case that Treasury, absent additional legislation, does not have the authority on its own to index capital gains.
The article raises the question as to which institutional actor in our government should be responsible for generating a change in law that would have a major impact on both the fisc and the tax system. This question periodically appears in tax administration; longtime readers of the blog may connect this to other issues; for example, in Loving v IRS a DC district court opinion affirmed by the DC Circuit held that without explicit Congressional authority the IRS could not administratively require hundreds of thousands of previously unlicensed preparers to take a competency test and be responsible for continuing education requirements.
The article provides current and historical context for indexing capital gains, including a 2018 statement by President Trump that he is “thinking about it very strongly” and a discussion of the last time that there seemed to be serious executive consideration of this proposal, in the waning days of the first Bush administration. The idea seems to be gaining momentum, as reports from this summer indicate that President Trump has put this issue on the front burner.
The issue of capital gains indexing is really an issue of basis indexing, an issue that would apply to both capital assets and ordinary assets. Since as the authors point out over 98% of the gain reported was on capital assets (2015 figures), the shorthand way to refer to this issue is on the power to index capital gains. The technical issue turns on whether Treasury could index basis for inflation through regulations.
The authors discuss why at the time of the proposal’s earlier consideration in the 1990’s there was general (though not uniform) consensus that Treasury did not have the authority to unilaterally index basis for inflation, including legal opinions from Treasury’s General Counsel and the Justice Department’s Office of Legal Counsel (OLC). As I gear up again to teach basic tax for the fall semester, as I tell my students at Villanova, it is crucial to start with the Internal Revenue Code when thinking about this issue. Section 1012(a) (first enacted as part of the Revenue Act of 1918), says that “[t]he basis of property shall be the cost of such property.”
The article (starting at page 707) nicely summarizes the main reasons why in 1992 the OLC concluded that “cost” was not ambiguous, looking at its dictionary definition, early Treasury practice, court decisions, and other IRC provisions. Absent finding any ambiguity in the term cost, OLC concluded that cost meant the price paid for an item, and Treasury could not on its own change the meaning of it by regulation.
Hemel and Kamin’s article then discusses developments since the first Bush presidency, including case law outside tax that some proponents have suggested supports finding that cost is indeed an ambiguous term, general administrative law developments, and the tax law’s place within administrative law.
As to general administrative law, the authors persuasively argue that developments since the early 1990’s make it even harder to support a regulation based capital gains indexing. A key part of the discussion is the authors’ discussion of the “major questions” doctrine, where a number of Supreme Court decisions deny Chevron deference to issues that have deep economic and social significance in the absence of clear Congressional direction to agencies. As the authors note,
[t]he advent of the major questions doctrine is the most significant post-1992 doctrinal development bearing upon the legality of the presidential indexation proposal. And it does not bode well for the idea. While the exact boundaries of the major questions doctrine remain unclear, there are compelling arguments that the decision to index basis for inflation or not should qualify as a major question.
As support for this type of change being considered within the major questions doctrine, the authors point to estimates that peg the cost of indexing to be in the magnitude of $10-20 billion a year. They also discuss Supreme Court cases warning against reading delegation into cryptic legislative language:
As Justice Scalia wrote for the Court in Whitman v. American Trucking Association, citing to both MCIand Brown &Williamson: “Congress . . . does not alter the fundamental details of a regulatory scheme in vague terms . . . . [I]t does not, one might say, hide elephants in mouseholes.” And as we have emphasized, indexing basis for inflation would indeed be an elephant.
Drilling down deeper, the authors discuss general Chevron developments and the subtle but important difference in now Justice Kavanaugh’s take on the major questions doctrine-developments that they argue make the case for indexing even weaker. While now Justice Kavanaugh (who authored the DC Circuit Loving opinion, which in part relied on the major case doctrine as justification for concluding that IRS acted outside its authority in its efforts to require mandatory testing and education for unlicensed preparers) is just one member of the Court, Hemel and Kamin also discuss the general discomfort that many of the justices feel for Chevron, including their take that the current “judicial zeitgeist…is decidedly anti-Chevron.”
The authors also address somewhat more difficult questions when they consider whether any party would have standing to challenge regulations. After all, the regulations appear to only help taxpayers, and as the authors note, scholars such as Larry Zelenak considering the issue in the 1990’s felt that without there being a disadvantaged taxpayer, it would be difficult to find a party with standing to challenge the regulations. The authors again look to post 1990’s developments to sidestep the need for individual taxpayer harm, including the possibility that Congress or states could have standing to sue. In addition, the authors creatively argue that indexing would harm some, including brokers, who would bear additional costs to comply with reporting obligations, and taxpayers subject to the charitable deduction cap in Section 170.
The Hemel and Kamin article provides important legal context on this issue. If the Trump administration moves forward with the idea, this article will be required reading for those interested in and likely litigating the issue. Even if the Trump Administration declines to move forward with this idea, given current dysfunction in Washington and the strained relations between the branches, I suspect that there will be even greater temptation to use the IRS to sidestep Congress to achieve policy objectives that have at best a tenuous link to the statutory language. As such, the legal issues Hemel and Kamin discuss are generally important for tax administration, and will likely resurface even when this particular debate goes away, or perhaps hibernates for another generation to consider and likely discount.