Ways & Means Takes on Tax Reform

The House Ways and Means Committee began its focus on tax reform yesterday with a hearing on economic growth.  The hearing, entitled “How Tax Reform Will Grow Our Economy and Create Jobs” featured four company representatives and one hedge fund manager invited, oddly enough, by the Minority.

One of the company witnesses, Zach Mottl, is the Chief Alignment Officer for Atlas Tool Works, a multi-generation family business located outside of Chicago.  Operating in an industry with large, multinational competitors, Zach made clear the current rate structure is tilted against smaller companies like theirs that lack the international presence to shift around income:

In addition, oftentimes, tax issues affect manufacturers of different sizes in different ways, usually smaller manufacturers, like the TMA member companies, are the only companies paying a higher tax rate because we do not have the staff or the resources to develop a comprehensive global tax avoidance plan like our larger peers who actually pay far less in taxes that we do. 

Meanwhile, Representative Vern Buchanan (R-FL), a friend of the Main Street business community, had this to say:

But I want to touch on pass-through entities and make sure they don’t get lost in the mix. I got a bill, I’d like to see close to parity. When you look at corporate rates at 35% they’re not competitive, but for pass-throughs it’s as high as 44%. If you add state income tax in states like California, they’re 12-13%, it could be as high as 57%, makes absolutely no sense. So, I guess I’d like to ask some of the panelists, just your thoughts on lowering those rates, where they’re more competitive, getting it down to somewhat near the corporate rate, I don’t necessarily agree with 15%, but the difference that would make in terms of growth, in terms of jobs, and also in terms of raising wages.

As you’ll recall, Rep. Buchanan has been active on this issue for some time, advocating for a level playing field and sponsoring the Main Street Fairness Act in the last two congresses.  Here’s what we wrote when his bill was first introduced last Congress:

And just this week, Congressman Vern Buchanan (R-FL) introduced legislation on the issue of rate parity.  Entitled the Main Street Fairness Act, the bill would cap the top pass through business tax rate at the top corporate rate.  Under the Buchanan bill, the same 35 percent top rate that applies to corporate income would also apply to successful pass through businesses.  If Congress reduces the corporate rate next year, pass through businesses would get the new lower rate too.

Groups weighing in on the Buchanan bill include the National Association of Manufacturers, the National Retail Federation, and the Associated Builders and Contractors.  You can read more about the Buchanan bill here.  You can read the S Corporation Association letter on the bill here.

The good news is that the House Blueprint specifically referenced this legislation as a possible means of defining pass through business income and ensuring fairness for Main Street businesses.  As the debate proceeds, we expect lots more attention paid to the challenge of how to treat pass through businesses.  As the Buchanan bill demonstrates, there are smart folks on the Hill working to make sure we get it right.

 

Mnuchin on Pass Throughs

The same day that the House kicked off its tax reform efforts, Treasury Secretary Steven Mnuchin was talking taxes over on the Senate side.  Testifying before the Senate Banking Committee, Mnuchin was asked about their tax reform plan and the challenge of enforcing their new, 15-percent rate on businesses.

Treasury Secretary Steven Mnuchin defended the Trump administration’s push for a 15 percent pass-through tax rate during an appearance today before the Senate Banking Committee.

“We will put procedures in place … to prevent people who should be paying higher taxes from using pass-throughs to arbitrage the system,” Mnuchin said in response to questioning from Sen. Elizabeth Warren (D-Mass.). “I can assure you … we are not going to allow all pass-throughs to get that rate.”

Mnuchin added that the administration planned to put in place a system to ensure only “small and medium-sized businesses” could use the proposed pass-through rate to ensure wealthy individuals would not simply form their own companies to avoid higher personal income tax rates.

The Treasury secretary also defended the tax outline he and National Economic Council Director Gary Cohn unveiled weeks ago from charges that it would heap trillions more dollars onto the national debt.

“We would never propose a plan that we thought would cost $5 trillion,” Mnuchin said when Sen. Jon Tester (D-Mont.) asked about the cost of tax cuts Trump proposed. “Only parts of the plan were released so I don’t know how it could be responsibly scored.”

“I am concerned as to whether some of the models will attribute enough growth in dynamic scoring,” added Mnuchin, rebutting arguments that growth may not pay for the cost of Trump’s proposals, “but when we present the details we will present how we think it should be paid for.”

There are many concerning aspects of this response, but the most obvious fallacy is the notion that tax avoidance only happens with pass through businesses.  What about the 15-percent rate for corporations?  What’s to stop wealthy individuals from using the C corp structure as a tax shelter?  That’s what they did pre-1986, and that’s what they would do here too (here and here).

For six years, the pass through community has coalesced around a simple proposition that the best way to ensure economic growth and the integrity of the tax code is to tax all forms of income – individual, pass through, and corporate – at similarly low top rates, while eliminating the double tax on corporations.

As the question and response above makes clear, the further you get away from this approach, the more difficult the challenges become.  Secretary Mnuchin’s vision resembles the tax code pre-1986, when all US companies of any size were organized as C corporations and tax avoidance was rampant.

It’s a result we are eager to avoid.

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