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For the first time in three decades, Congress is scrubbing up to perform surgery on our unfair, incomprehensible and anti-economic growth tax code. President Barack Obama has made his proposals. The chairmen of the two tax-writing committees in Congress, Rep. Dave Camp, R-Mich., and Sen. Max Baucus, D-Mont., titled a recent high-profile joint op-ed, “Tax Reform Is Very Much Alive and Doable.”
Whether Congress performs a triple bypass through fundamental tax reform or if it just performs triage on the worst tax provisions remains to be seen.
Fundamental tax reform would replace our U.S. income tax with a consumption tax. Examples of a consumption tax are the European value added tax or state retail sales taxes. A uniquely American consumption tax could be crafted suitable to our economy, politics and times. Implicit would be provisions to prevent too much “regressivity” or creation of a “money machine.” It would be fairer — reward Mr. Thrift rather than Mr. Spendthrift. It would be simpler than our current tax code, which the IRS cannot easily explain or administer. It would facilitate economic growth by exempting all saving and investment from taxation: Mr. and Mrs. Middle Class would not be penalized when saving for a home, their children’s education or a secure nest egg for retirement. American businesses would not be penalized for innovation, investment and job creation.
A U.S. consumption tax in place of our current income tax would be ideal. Recognizing current political reality that tax reform may be limited to the income tax, here are three simple “do’s” to maximize economic growth and job creation:
• Do: Lower individual and corporate income tax rates. The U.S. corporate tax rate, at 35 percent, is uncompetitive and the highest among OECD countries. Move toward a “territorial” tax system to avoid multiple taxation by different countries. Most economists believe lower tax rates for individuals and corporations would minimize chasing tax loopholes and stimulate economic growth.
• Do: Be careful about “fixing” the income tax. First, look at fair, fundamental spending cuts that don’t jeopardize economic growth to “pay for” tax reform. Second, a no-brainer — end loopholes for special interests. It’s about revenue but, equally important. about public confidence in the tax code. Third, be careful about curtailing longstanding tax provisions that ameliorate the bias against saving and investment: the tax treatment of capital gains, dividends, IRAs, 401(k)s and business innovation and investment in new machinery and equipment.
• Do: Be bold and tax consumption to “pay for” lower tax rates to maintain and also liberalize the tax treatment of saving and investment. Economists of all stripes concur that this predicate is good for economic growth, job creation and a good standard of living for all Americans. According to the most recent analysis conducted by Ernst and Young, the U.S. had the fourth highest integrated (corporate and individual combined) capital gains tax rate among OECD (Organisation for Economic Co-operation and Development) and BRIC (Brazil, Russia, India and China) countries before the recent U.S. individual tax hikes. Similarly, our integrated tax on dividends was also the fourth steepest. In the most recent international comparison available, the U.S. tax treatment of business investment is also above the OECD average.
To illustrate the impact of tax policy on economic growth, consider the impact of the capital gains tax. Highly regarded mainstream economist Allen Sinai concluded in a macroeconomic analysis that eliminating the U.S. capital gains tax would create jobs at a cost to the federal government of only $18,000 per job. In contrast, recent federal stimulus programs created jobs at a cost of $92,000 per employee.
To hear the two top tax writers in Congress say tax reform is “alive and doable” is a positive prognosis, but to go the distance they will need to be prepared to revive and stabilize tax reform to ensure a healthy patient in the end. Most importantly, they will need to heed the Hippocratic oath, “First, do no harm.”
Mark Bloomfield is president and CEO of the American Council for Capital Formation.