“There’s definitely a deal to be done.” - President Barack Obama speaking about tax reform at the Business Roundtable on December 3, 2014
As the 113th Congress draws to a close this week with the expected one-year extension of tax provisions that expired at the end of 2013, the President and key members of his Administration have signaled that tax reform is a high priority and one of a short list of legislative accomplishments that he would like to complete during his final two years in office.
For Republicans, the President’s new enthusiasm for tax reform is a welcome development; many have complained that this Administration has done little to advance reform over the past six years while Congress has invested a great deal of time and energy, especially in the House of Representatives, seeking to forge a consensus to update what is viewed as antiquated tax policy that impedes US global competitiveness.
In his remarks at the Business Roundtable, the President noted that there is “a lot of overlap” on the business side between the tax reform draft that was released earlier in the year by outgoing House Ways and Means Committee Chairman Dave Camp (R-MI) and some of the more limited tax reform ideas that have been released by the Treasury Department over the past several years. Starting in September, several key economic advisers to the President, including Treasury Secretary Jack Lew, have been making this point, and in fact, while there are differences in details, in general conceptual terms, the President’s broad business tax reform outline and the major proposals that have been discussed on the Hill recently are very similar.
There is general agreement, for example, that the US corporate rate is an impediment to economic growth and should come down significantly, and that the US international tax system is out of date and encourages American companies to shift resources and profits overseas. Over the summer, the deep flaws in the US global tax system became apparent when a number of major US companies announced plans to move their domiciles overseas by inverting(i.e.,shifting their tax domiciles overseas following cross-border mergers), leaving Congressional tax writers to contemplate the possibility that if they fail to act soon the rush to invert will accelerate in 2015 despite efforts by the Treasury Department to remove some of the economic benefits of inverting.
Both the President and Congressional tax writers have proposed lowering the corporate rate, although the President has proposed a top rate of 28 percent with the goal in Congress to bring the rate down to no higher than 25 percent. Congressional tax writers are considering a transition from the current US system of worldwide taxation to a territorial system with base erosion provisions designed to impose a minimum rate of taxation on some forms of foreign income (i.e., income from the use of intellectual property overseas) that would have the result of taxing most foreign income at somewhere around 15 percent with a credit for taxes paid on such income to foreign jurisdictions. The President by contrast has proposed imposing a minimum tax on all foreign income (most likely of around 15 per cent), which would likely have a similar economic impact to the base erosion approach that Congress has taken. Both the President and Congressional tax writers are likely to offset the cost of reducing rates by eliminating numerous tax expenditures.
Over the past few weeks, the Administration and Congressional tax writers have sent signals to each other indicating other areas in which there is room for compromise. For example, while the President and Democrats generally want to raise additional revenue in tax reform to offset the cost of additional infrastructure and social spending, the Republican approach has generally been that tax reform should not raise any additional revenues over what the tax system currently raises. However, the President recently indicated that he might be willing to agree to have those additional revenues come from a one-time low tax on the repatriation of accumulated foreign earnings, a concept that incoming House Ways and Means Committee Chairman Paul Ryan (R-WI) has indicated he would favor. And while the Administration and Democrats differ from their Republican colleagues over the wisdom of addressing concerns over corporate inversions with temporary measures, all agree that the issue must be addressed in 2015 to stop what could be a massive erosion of the US corporate tax base.
It is common for Congressional tax writers to suggest that if reform were limited to business taxation, then a bipartisan deal could be struck very quickly. A week ago incoming Chairman Ryan, who favors comprehensive reform with a sharp reduction in individual rates, indicated he would consider breaking the reform effort into phases, with 2015 devoted to achieving phase I (reform of the corporate and international tax systems) and other phases potentially to follow after the next presidential election.
There is, however, less common ground to reform the individual tax system. The President is resistant to lowering the higher rates that he achieved in 2012 for higher income taxpayers, but there are ways around this, possibly by lowering the individual rates for income that is predominantly derived from an active business owned by the taxpayer.
Sometime before the end of this month, incoming Senate Finance Committee Chairman Orrin Hatch (R-UT) is expected to release a paper outlining some plans and concepts for tax reform, building on the Committee’s considerable study of tax reform over the past several years and the reform draft that Chairman Camp released earlier this year. It is likely that the President, in the Fiscal Year 2016 budget proposal he will release in early 2015, will focus heavily on common areas for tax reform as well.
A great of work has been completed, and a substantial amount of consensus exists, on business tax reform, both within the Administration and on Capitol Hill, but the missing element over the past few years has been a deep commitment from the Administration to devote its considerable technical and political resources to negotiate a deal with the Congress. Now, as the President contemplates the issues that will define his final legacy in office and the threat that failing to act in 2015 could result in a steady stream of American companies repudiating the US tax system by moving their domiciles overseas, tax reform has moved to the top of his list.