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Individual Taxpayers and Federal Tax Reform

Testimony before the United States Senate Committee on Finance

William G. Gale

Published: May 14, 2008
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The nonpartisan Urban Institute publishes studies, reports, and books on timely topics worthy of public consideration. The views expressed are those of the authors and should not be attributed to the Urban Institute, its trustees, or its funders.


Abstract

In the next few years, several factors will push tax issues to the forefront of policy discussions. First, under current law, almost all of the Bush Administration's tax cuts will expire at the end of 2010. A second factor is the rapid growth in the alternative minimum tax (AMT), which will increase the inequity and complexity of the tax system. A third issue is the expected increase in government spending over the next several decades. Despite these pressures on the system, tax changes are not inevitable, and achieving meaningful reform—that is, with substantial design improvements—will require strong political leadership. Gale's testimony focuses on some overarching principles that should guide tax reform efforts.


The text below is an excerpt from the complete document.
Read the full written testimony in PDF format.

Testimony

Chairman Baucus, Ranking Member Grassley, and other members of the Committee:
Thank you for inviting me to testify at this hearing on individual taxpayers and tax reform. The tax system needs to be simpler, more equitable, more conducive to prosperity, and sustainable. My remarks focus on some overarching principles that should guide reform efforts.

  • There is no clean line between individual taxes and business taxes. In particular, individuals–not businesses–bear the burden of taxes imposed on businesses.
    The key item in any tax reform is to broaden the tax base. The goal should be to tax all income once, tax it only once, at the full, income tax rate. Broadening the base
    • taxes different types of activities at the same rate, and thus "levels the playing field," and reduces the extent to which taxes distort economic behavior;
    • allows for lower rates in order to raise a given level of revenue, or allows an increase in the revenue level, if needed; lower overall rates, in turn, further reduce the extent to which taxes distort economic behavior; and
    • makes taxes simpler.
  • After base broadening, special attention should be given to the form of any surviving tax preferences. Deductions are regressive and are only justified if there is a true reduction in ability to pay, a condition that is rarely met among existing tax preferences. Converting the deductions to flat, refundable credits would in most cases be preferable on revenue, distributional, incentive, and efficiency grounds.
  • It is time to eliminate the AMT, but only if the revenue is replaced and the loopholes that would be created are closed.
  • A revenue system that is not adequate to finance government spending will be unstable and unsustainable.
  • The importance of simplifying the system can not be overstated. Taxpayers are overwhelmed by complexity, real and imagined, in the tax code. Oddly, although the need to simplify the tax system is the one goal everyone accepts in tax discussions, every year the system becomes more complex. If simplification is not the primary goal of reform, tax changes will likely make the tax system more complicated.

(End of excerpt. The entire testimony is available in PDF format.)

The views expressed are those of the author and should not be attributed to the Urban Institute, its trustees, or its funders.