By Ken Berry
The head of the Senate's tax-writing committee plans to go out with a bang. But the question remains: Will Congress give him enough ammunition?
Max Baucus (D-MT), chairman of the Senate Finance Committee (SFC), released a series of comprehensive tax reform proposals over a three-day span in late November. Specifically, the three drafts cover a restructuring of the international tax system, tax administration and fraud prevention techniques, and cost recovery deductions. Since Baucus has previously announced he intends to retire from Congress at the end of 2014, he knows this could be his last hurrah.
"It's time to move; it's time to go", Baucus told an assembly of reporters in his Washington, DC, office. "You can create your own destiny."
On the other side of the aisle, tax reform efforts by Representative Dave Camp (R-MI), chairman of the House Ways and Means Committee, appear to have bogged down. There's no indication Camp would sign off on the Democratic senator's proposals. The outlook for a "meeting of the minds" before Baucus' tenure ends isn't encouraging.
International Tax System
The first draft released by Baucus relates to international business tax reform. Many of the key features of the current international tax system were created in the 1960s, well before the advent of the "global economy." During the past fifty years, the number of foreign subsidiaries owned by US corporations has swelled from fewer than 20,000 to more than 80,000. At the same time, US investments overseas grew from $52 billion to $4.2 trillion, while investments in tax haven jurisdictions increased from $3 billion to a staggering $1.7 trillion.
Baucus has proposed modernizing the international tax system in a way that purports to emphasize simplicity and fairness, stimulate US growth and job creation, and be revenue-neutral over the long term. The draft, which is designed to promote the United States as a competitive place to invest, draws extensively from proposals of various other SFC members. Some of the most significant proposals are as follows.
Taxation of foreign income of US entities: The draft repeals the system for deferring earnings of foreign subsidiaries of US companies. In its place, the income would either be taxed immediately when earned or be exempt from US tax.
Income derived from selling products and providing services to US customers would be taxed annually at regular US rates. The draft includes two options for applying an annual minimum tax to income from products and services sold into foreign markets:
- A minimum tax rate would apply to all such income.
- Income would be taxed at a lower minimum tax rate if derived from active business operations and at the regular US rate if not.
Deemed repatriation: Historical earnings of foreign subsidiaries that haven't been subject to US tax would be taxable on a one-time basis at a reduced rate. For example, a 20 percent rate might be payable over eight years.
Other issues: The draft would also eliminate opportunities to avoid US tax on US income. This includes provisions for eliminating international aspects of the "check-the-box" rule and addressing base erosion arrangements used by foreign multinationals to avoid US tax.
Tax Administration and Fraud
The second draft released by Baucus is designed to simplify tax filing and discourage fraud and identity theft. It would absolve taxpayers from filing a corrected return when the error on the initial filing is less than $25. Also, some filing deadlines would be adjusted to allow tax preparers more time to collect the information needed to file returns.
"Our tax code today is inefficient and incomprehensible to the overwhelming majority of Americans", said Baucus in a news release. "This complexity is eroding confidence in our economy and creating uncertainty for America's families and businesses. Enough is enough. This discussion draft explores ways to simplify the tax process for all Americans."
New deadlines: Although the draft doesn't change the April 15 deadline for filing individual tax returns, other changes would affect business entities. Returns for calendar-year partnerships would be due by March 15, instead of the current deadline of April 15, while fiscal year returns would be due on the fifteenth day of the third month following the close of the fiscal year. Returns for calendar-year S-corporations would be due March 31 instead of the current deadline of March 15. Fiscal-year S-corps would have to file by the last day of the third month following the end of the fiscal year.
Other provisions: Certain other proposals, some of which have surfaced in the past, include the following:
- The State Department would be allowed revoke the passport of anyone with a "seriously" delinquent tax debt of at least $50,000, for which a lien has been filed.
- The IRS will create an online platform for preparing and filing forms 1099 similar to the system used by employers to file W-2 forms.
- A scannable bar code would be used for tax returns that are prepared by computer but printed on paper.
- Electronic filing by paid tax preparers would be required for returns and associated documents of clients.
- There would be restricted access to the Social Security Administration (SSA) master file for three years after a death.
- Banks would have to disclose existence of accounts for which no interest was earned.
- Information returns on mortgages would include the outstanding balance of the mortgage, the address of the encumbered property, the property taxes (if any) paid from escrow, and the loan origination date.
Technical corrections: Baucus also proposed technical corrections to the American Taxpayer Relief Act of 2012 (ATRA). This would include clarification of the ATRA rules for the capital gains rate of certain upper-income taxpayers and the exemption amount under the alternative minimum tax (AMT) for married individuals filing separate returns. Other technical changes would update the "bail-out law", the Emergency Economic Stabilization Act of 2008, clarifying that a taxpayer will not qualify for a special depreciation allowance under a provision for reuse and recycling property if it elects out of bonus depreciation. Finally, Baucus addressed several technical revisions needed for the American Jobs Creation Act of 2004.
Cost Recovery Deductions
Baucus released the third and last of the draft proposals November 21. This one was directed at proposed reforms to the cost recovery and tax accounting rules. These rules, which determine when a business may recoup the cost of investments and how to account for their income, were created back in 1986.
The draft, which seeks to lessen the tax burdens on small businesses, purports to raise enough revenue from corporations in the long term to finance a "significant" reduction in the corporate tax rate. However, it doesn't address certain tangential issues, such as incentives for innovation, manufacturing, and energy production. Some of the most important proposals are as follows.
Depreciation of tangible assets: Baucus proposed three key changes in this area:
- Replacing the current system with one that that better approximates economic depreciation based on estimates from the Congressional Budget Office.
- Reducing the number of major depreciation rates from more than forty to five.
- Eliminating the need for businesses to calculate depreciation separately for each of their assets, other than real property.
Amortization of intangible assets: The proposal requires businesses to deduct the cost of research and development (R&D), natural resource extraction, and 50 percent of advertising expenses over five years.
Tax accounting: Baucus advocates axing the LIFO (last in, first out) accounting rules, which have been on the chopping block for years. The draft also repeals the rules for like-kind exchanges.
Simplifications for small businesses: The draft proposes to permanently increase the maximum Section 179 "expensing" deduction to $1 million and expand the definition of qualifying expenses. Currently, the $500,00 maximum deduction is scheduled to plummet to $25,000 in 2014. Furthermore, any company with gross receipts under $10 million could use cash accounting and expense inventory costs.
"America today is using a bloated tax code that was built for businesses close to thirty years ago", Baucus said in a prepared statement. "The code is completely outdated and acting as a brake on economic growth. More must be done to simplify tax rules, lessen the burden on small businesses, and jump-start job growth."
Baucus is encouraging comments on his proposals from all sectors. It is almost certain that the proponents and detractors of changes will start lining up. Whether Congress can agree to meaningful tax reform, however, is another story.