Is this the tax reform Obama and the new Congress can agree on?

November 2, 2010

From my Reuters Breakingviews column:

President Barack Obama’s bipartisan deficit commission has a mandate to cut the U.S. budget gap. But the White House panel may surprise in another area: tax reform. Democrats and Republicans are taking a hard look at a plan that would simplify the code and cut corporate taxes. Although not perfect, it would be a big improvement.

Much of the public focus on the commission, which is expected to vote on any recommendations it makes next month, has been on its efforts to slash spending. Two areas that could suffer the knife are tax breaks and Social Security, analysts say. But panelists are also assessing ways to reform America’s labyrinthine tax code to promote economic growth, and thereby more tax revenue to help pay down the debt.

Smartly, members won’t recommend a total scrapping of the current system in favor of some ideal tax code concocted by academics. No politically unfeasible value-added or flat taxes here (though a flat consumption tax would be ideal). Instead, they’re examining a plan devised by politicians — Senator Ron Wyden, a Democrat from Oregon, and Senator Judd Gregg, a Republican from New Hampshire and panel member — that uses the current system as a baseline and then tweaks it a whole lot.

The Wyden-Gregg idea mostly succeeds. For individuals, it would reduce the number of tax rates from six to three and dump the alternative minimum tax. It would also combine several existing government savings plans into one. For business, Wyden-Gregg would combine multiple rates, including a 35 percent top rate, into a flat, 24 percent corporate rate. Small businesses could immediately write off capital investments. And companies could only deduct part of their interest payments, making equity financing more competitive. All great, great stuff.

There are some downsides, which is to be expected of a plan meant to win votes on both sides of the aisle. It would raise the top capital gains tax rate to 23 percent from 15 percent (not counting what happens with the Bush tax cuts or the new Obama Medicare tax). It would also subject the foreign income of U.S. multinationals to immediate taxation. Most advanced economies tax only income earned domestically.

But taken as a total package, Wyden-Gregg would create a more pro-growth tax system without, says the Congressional Budget Office, adding to the national debt. Corporate taxes, for instance, are the most harmful tax that nations levy, according to the OECD. If Congress and the White House want to shock cynics with a big compromise in 2011, tax reform would a great place to start.

And let me add this: The Heritage Foundation ran a great dynamic scoring analysis of the plan, unlike the static, for-accountants-only version from the CBO. It found the following:

1. The federal deficit would be an average of $61 billion (nominal) lower per year;

2. The nation’s debt-to-GDP ratio would be 3.9 percentage points lower by the end of 2020, indicating a significant reduction in publicly held debt;

3. An average family of four would have about $4,095 more disposable income every year;

4. Foreign investment in the U.S. would be an average $292 billion (nominal) higher each year, and U.S. multinational corporations would repatriate and invest an average $19 billion (nominal) more in the U.S. per year;

5. 2.3 million more jobs would be created on average each year;

6. The aggregate net wealth (assets minus liabilities) of U.S. households would be $643 billion higher by the end of 2020; and

7. Real GDP would be an average $298 billion higher per year.

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The presidential term is for 4 yrs, it takes time for policies to reap benefits, there is some amount of gestation period before the yielding & maturity kicks in, these poll pressures can change policy before the policy actually shows results,

potential Mayors are filing candidature.

Arvind Pereira

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