Month: November 2014

The lame-duck Congress is poised to conclude by passing a $450 billion package of deficit-financed tax breaks that primarily benefit businesses. Democratic leader Sen. Harry Reid is negotiating a deal with House Republicans, according to news reports.

The bill would make permanent several temporary tax breaks for businesses and extend others for two years without offsetting the cost. This Congress, which has refused to provide measures such as emergency unemployment benefits or highway projects unless the costs were offset, should not make one of its final acts a package of special interest tax breaks that fail to achieve any desirable policy goals. President Barack Obama has wisely threatened to veto the emerging deal.

It is especially troubling that both Democratic and Republican members are supporting tax extenders yet continue to ignore two temporary tax measures that should be made permanent, provisions that boost the Earned Income Tax Credit (EITC) and Child Tax Credit (CTC) for low-income, working families. These expire at the end of 2017 under current law.

Bill Makes Permanent Problematic Temporary Tax Breaks
Earlier this year, the Senate Finance Committee approved a limited package of two-year tax breaks, which is the sort of tax extenders legislation Congress has enacted in the past. A CTJ report explained that even a more limited bill would provide $85 billion in tax cuts that mostly go to businesses and fail to achieve policy goals.

The House of Representatives took an approach that was even more irresponsible, approving bills that would make many of the most costly and least effective tax breaks permanent.

To be sure, some of the proposed permanent tax breaks cost relatively little and achieve a policy goal that is not entirely unreasonable, such as an increase in the break for people who take mass transit to work. But the vast majority of the provisions that would be made permanent are costly breaks that do not seem to accomplish any policy goal. Here is some of what we said in our report earlier this year about these breaks:

The Research Tax Credit
The research credit needs to be reformed dramatically or allowed to expire. Accounting firms are helping companies obtain the credit to subsidize redesigning food packaging and other activities that most Americans would see no reason to subsidize. These firms also approach businesses and tell them that they can identify activities the companies carried out in the past that qualify for the research credit, and then help the companies claim the credit on amended tax returns. When used this way, the credit does not accomplish the goal of increasing business research.

Deduction for State and Local Sales Taxes
Lower-income people pay a much higher percentage of their incomes in sales taxes than the wealthy, but lower-income people also are unlikely to itemize deductions and are thus less likely to enjoy this tax break. In fact, the higher your income, the more the deduction is worth, since the amount of tax savings depends on your tax bracket. People earning less than $60,000 a year who take the sales-tax deduction receive an average tax break of just $100, and receive less than a fifth of the total tax benefit. Those with incomes between $100,000 and $200,000 enjoy a break of almost $500 and receive a third of the deduction, while those with incomes exceeding $200,000 save $1,130 and receive just over a fourth of the total tax benefit.

Section 179 Small Business Expensing
Section 179 is an accelerated depreciation break for smaller businesses, allowing them to write off most of their capital investments immediately (up to certain limits). A report from the Congressional Research Service reviews efforts to quantify the impact of depreciation breaks and explains that “the studies concluded that accelerated depreciation in general is a relatively ineffective tool for stimulating the economy.”

Bill Extends More Than 50 Special-Interest Tax Breaks for Two Years
As explained in CTJ’s report, many of the remaining more than 50 tax breaks that would be extended for two years under the deal are also bad policy. For example, two provisions encourage U.S. corporations to shift their profits offshore. One of these breaks is the active financing exception (the G.E. loophole), which provides an exception to the general rule that corporations cannot defer paying U.S. taxes on offshore income when it takes the form of interest (which is easy to manipulate for tax avoidance purposes). Another is the seemingly arcane “CFC look-through rule” which aided Apple’s infamous tax avoidance schemes.

EITC and CTC Expansions Not on the Table
Expansions in the EITC and CTC that were first enacted as part of the economic recovery act of 2009 were last extended in the “fiscal cliff” legislation of early 2013. That law maintains these provisions through the end of 2017. The changes make the refundable part of the CTC more accessible to parents with very low earnings and increase the EITC rate for families with three or more children and for some married families.

A report published by Citizens for Tax Justice during the fiscal cliff debate concluded that 13 million families with 26 million children would be affected in 2013 by these provisions. The report includes national and state-by-state figures.

Congress Should Not Pass a $450 Billion Business Giveaway
The 113th Congress has had two years to make its mark and pass important legislation that would benefit ordinary Americans. At so many turns—from expanding emergency unemployment benefits, to passing transportation funding—they chose gridlock. In fact, Republican members used the deficit as a scapegoat for not doing anything for ordinary working people. This Congress should not make deficit-financed tax breaks that primarily benefit businesses one of its final acts. If the lame-duck Congress insists on making its mark on the tax system by making temporary tax breaks permanent, the EITC and Child Tax Credit expansions should be their top priority.

By Kelly Davis and Meg Wiehe

Mississippi lawmakers have been talking for months about spending some of the Magnolia State’s revenue surplus next year on a tax cut, but that talk has been short on details until this week.  On Monday, Gov. Phil Bryant released his budget plan for next year which includes a $79 million tax break for working families via enacting a 15 percent nonrefundable Earned Income Tax Credit (EITC).  The EITC would be available for taxpayers if revenues increase by 3 percent annually and the state’s emergency fund is fully funded.  

More tax cut proposals are likely to surface in the coming weeks as House and Senate members put together their spending plan for next year. While it is likely we will see much more expensive tax cuts directed to the wealthiest taxpayers in the state, let’s hope lawmakers work to improve upon Gov.  Bryant’s plan.  Nonrefundable EITCs only benefit low income workers who owe income taxes, but do nothing to offset the high sales and property taxes that hit these families the hardest. Making the credit refundable would help offset those regressive taxes for the poorest Mississippians. In fact, an ITEP analysis found that the governor’s nonrefundable EITC proposal would give a tax break to only 9 percent of the poorest MS. But a refundable credit would reach 45 percent of low-income people.

Making the credit refundable would also be an excellent way to put even more money in the hands of working Mississippians who are very likely to spend that money. When speaking about who would benefit from his tax cut plan Bryant rightly said, “They don’t bury it in the yard,” Bryant said. “They spend it.”

While it’s worth celebrating that the Mississippi Governor’s tax cut plan is directed to low-income working families most in need of a break, our friends at the Mississippi Economic Policy Center remind us than any tax cut comes at a cost to public education which is grossly underfunded in the state.  The state has cut funding for K-12 schools by 12.3% since 2008.  More than $300 million is needed to bring public education spending up to an adequate level, yet Bryant’s proposed budget only increased K-12 spending by $53 million.

Like the mythic Hydra of centuries old, the idea that people “vote with their feet” by intentionally leaving high-tax states for low-tax states is a monster that will not die. Each time the tax flight myth is shot down, two additional claims arise that espouse tax migration as gospel. Even though ITEP’s own Carl Davis demolished Art Laffer’s claim that states without income taxes outperform states with progressive income taxes way back in 2011, Laffer continues to peddle the same snake-oil. And despite the abundance of data refuting the migration claims posited by anti-tax activists like Travis Brown, Maryland Republicans made the same deeply-flawed claims a centerpiece of their strategy in the recent gubernatorial election.

Luckily, Michael Mazerov at the Center on Budget and Policy Priorities (CBPP) is on the case. I saw Mazerov’s presentation on interstate migration and state income tax levels at this week’s State Fiscal Policy Conference, and walked away impressed with his thorough debunking of the myths.

The bards will sing tales of his greatness.

Proponents of the tax flight myth argue that people intentionally flee states like New York and California for states like Texas and Florida due to a conscious desire to pay lower state and local taxes. They draw the conclusion that states can promote in-migration and economic growth by cutting income taxes for the wealthy or at the very least stopping tax increases. Mazerov’s research shows that these arguments are dead wrong. In a paper he wrote in May, Mazerov found that taxes have a negligible effect on interstate moves; most people (75 percent) cited new jobs or family obligations as the main reason for leaving their state in a 2013 Census Bureau Survey. Furthermore, the rate of interstate relocation has declined over the past few decades; only 1.5 percent of the US population moved between states in 2013. 69 percent of US citizens still live in the state where they were born, and there is no relationship between a state’s income tax rate and the proportion of native born residents.

A key way that tax flight proponents distort the data is by focusing on out-migration and totally ignoring in-migration. Of the nine states with the highest top income tax rates in 2011, all nine replaced more than two-thirds of their departing households with new arrivals, according to IRS interstate migration data. In fact, the replacement rate was about 91 percent on average.

Another key argument that tax flight proponents make is that when residents or businesses depart, they take their income with them – a canard that Mazerov swatted down in a paper released last month. To state the obvious, most people don’t take their income with them when they leave since they work for other people. In most cases, their job will just be filled by another resident of the state, new or old. Research also shows that entrepreneurs – the “job creators” that proponents claim will flee to low-tax states – are relatively immobile. A February 2014 survey of 150 entrepreneurs found that the most common reason for launching a business in a particular location was that the entrepreneur lived there; the second most common reason was access to talent. Only five percent of those surveyed cited low tax rates as a factor. When business owners leave a state, the business is sold or other businesses pick up its market share – it would be a strange economy indeed where jobs and firms disappeared even though the demand for those jobs and firms remained.

Finally, proponents of the tax flight myth ignore the convincing body of research around the impact of climate on interstate migration decisions. Mazerov’s research shows that Florida (no income tax) was the top destination for interstate movers from Illinois, Michigan, New Jersey, New York, Ohio and Pennsylvania despite vastly different income tax rates in those states. The second-most popular destination states were Arizona and North Carolina, despite the presence of Nevada, Tennessee and Texas – all states with no income tax – close by.

The empirical evidence confirms what most know intuitively: people don’t pack up their lives and move to another state because of percentage changes in personal income tax rates. They move for a spouse, for a job, to be closer to family, to get a better education – in short, for the myriad human reasons that make our lives meaningful. It would be better for states to invest in areas that would actually attract new residents and economic activity (affordable housing, education, and workforce development for starters) than to conjure up justifications for unfair tax cuts. We owe Michael Mazerov a debt of gratitude for his Herculean effort to bring the facts to this crucial public policy debate. 

File this in the category of you can’t make this stuff up. The U.S. Treasury Department’s next high-ranking political appointee may be Antonio Weiss, a Wall Street dealmaker who helped orchestrate major corporate inversion deals. This comes just two months after the administration announced regulatory changes to address the inversion crisis. Needless to say, the nomination is not sitting well with some Democratic lawmakers.

On Wednesday, Senator Elizabeth Warren of Massachusetts took to Huffington Post to tear into the Obama administration for nominating Weiss to serve as Under Secretary for Domestic Finance. Warren has many objections to Weiss, but the one that stands out is that he “helped put together three of the last four major corporate inversions that have been announced in the U.S.” One of these deals was Burger King’s pending acquisition of Tim Hortons, the Canadian coffee and donut chain, for the purpose of claiming that the newly merged corporation is based in Canada rather than the U.S.

Warren is not satisfied with the Administration’s response to criticism:

“The response from the White House to these concerns has been two-fold. First, they say that Mr. Weiss was not involved in the tax side of the Burger King deal. But let’s speak plainly: This was a tax deal, plain and simple. It was designed to reduce Burger King’s tax burden, and Weiss was an important and highly-paid part of the team. Second, the White House claims that Mr. Weiss is personally opposed to inversions. Really? Did he work under protest, forced to assist this deal against his will? Did he speak out against tax inversions? Did he call out his company for profiting so handsomely from its tax loophole work?”

Prompted by public outcry over multiple major corporations’ inversion deals, the administration on September 22 announced regulations intended to slow or halt inversions by making them less financially enticing. The nomination re-enforces Warren and others’ concerns that Wall Street bankers are over-represented in senior administration positions.

On Thursday, Senator Richard Durbin of Illinois, an outspoken advocate of legislation to stop corporate inversions, joined the chorus. Anyone in corporate America who hoped that the lame duck Congress is too distracted to be angry about inversions might be very disappointed.

The tax extenders legislation that Congress enacts every couple of years to extend dozens of tax breaks for businesses has been criticized from the right and the left as pork for special interests. Yet Congress is considering making some of these tax breaks permanent. The leading candidate–the research tax credit–is one of the most problematic of the bunch. The credit  subsidizes everything from the development of new soda machines to the invention of kitchen equipment that replaces staff in fast food restaurants.

Many business activities qualifying as “research” are ones that Americans would not want to subsidize. For example, the accounting giant Deloitte openly advertises its services to help the food industry receive the credit for “developing new packaging” or “redesigning existing packaging.” Deloitte tells potential clients, “Developing new product flavors, appearances, textures, health benefits, and extending shelf life are all potentially qualifying activities.”

A Long Island firm is more specific, explaining that the credit can help companies improve “kitchen science” and then lists several activities that presumably qualify for the credit: “PepsiCo researchers utilize ‘flavor fibers’, small chemical sensors, in the test kitchen.” Coca-Cola developed the “Freestyle” soda machine. Using newly developed kitchen equipment, “Chili’s will be able to cut out 40 hours of labor each week.”

The firm even boasts how these activities can allow restaurant chains to replace workers with machines to save costs.

“In addition, many states are considering raises to the minimum wage, including the wage of tipped workers. Meanwhile, fast food workers in cities like New York have staged protests and walk-outs regarding issues of compensation. The ability to reduce labor needs through machine innovation is therefore a major way restaurants can continue to maintain margins.” 

As explained in CTJ’s 2013 report on the research tax credit, one of the major problems is that the definition of qualifying research has never been sufficiently clarified through regulations. Efforts to resolve that at the end of the Clinton years were thwarted by the incoming Bush administration, and have not been revived by the Obama administration.

House Bill Would Expand and Make Permanent the Research Credit without Examining Its Effects

Of course, none of this means that the research credit always goes toward questionable activities. It simply means that lawmakers should look into the matter, particularly as they debate expanding and making it permanent.

Unfortunately, most members of Congress have endorsed legislation that would at least extend the wasteful tax break for two years. Earlier this year the Senate Finance Committee approved, with bipartisan support, a tax extenders bill euphemistically called the Expiring Provisions Improvement Reform and Efficiency (EXPIRE) Act. It would extend for two years more than 50 tax breaks, including the research credit. CTJ described this bill as a legislative travesty because it would increase the budget deficit by $85 billion to provide unnecessary tax breaks for businesses.

But the approach taken by the House of Representatives makes the Senate bill look like a model of fiscal responsibility. The House this year approved several bills that would increase the budget deficit by hundreds of billions of dollars by making some of these business tax breaks permanent. The one that seems to have the most support would make the research credit permanent — and double its cost by increasing the rate at which activities qualifying as “research” are subsidized. This proposal would increase the budget deficit by $156 billion over the coming decade.

The Obama administration sensibly indicated that the President would likely veto the bill if it came to his desk because its costs are not offset.

But some members of the House insist that they will not approve any tax extenders bill unless it also makes the research credit permanent. The implicit threat seems to be that if the House’s demands are not met, Congress will go home without enacting a tax bill and no Democratic member or Republican member will get to extend any of their cherished tax breaks. To which we say, what’s so bad about that?

As you sip your morning latte, you should know that Starbucks has joined the list of multinational corporations whose tax-avoidance deals with European Union member states are being challenged by the European Commission, EU’s governing body. The Commission released a report last Friday stating that Starbucks’ tax arrangement with the Netherlands constitutes illegal state aid to the company.

The report focuses on two aspects of Starbucks’ Dutch subsidiaries: the intellectual property it holds, like the “coffee-roasting process,” which other subsidiaries pay royalties to use, and the way it determines the price of green coffee beans it purchases from its Swiss subsidiary (the transfer price). Both arrangements appear to improperly strip earnings from other countries and shift those profits to jurisdictions (in this case, the Netherlands) where Starbucks has negotiated extremely low tax rates.

The Starbucks report is the latest in a series of EC challenges to special deals between multinational corporations. We commented earlier on the investigations into Luxembourg’s deals with Amazon and Ireland’s deals with Apple. Luxembourg, Ireland, and the Netherlands are three of the top twelve tax havens used by U.S.-based multinationals, as we noted in our report earlier this year.

The arrangements challenged by the EC appear to be the same deals which prompted a U.K. parliamentary committee to summon the Starbucks’ executives to a hearing (along with Google and Amazon) over their “immoral” tax-dodging ways. Shortly after that hearing, Starbucks promised to review its U.K. tax position and later announced that it would move its European headquarters from the Netherlands to London. Whether Starbucks has meaningfully restructured its tax-driven strategies remains to be seen.

Aside from the Commission’s investigations into the effects on EU member states, it’s likely that the Netherlands and Luxembourg subsidiaries are also being used to shift profits out of the U.S. The IRS should be challenging these arrangements, too. Congress, meanwhile, should close some of the loopholes that make this kind of tax dodging possible, without waiting for tax reform.

The already overheated battle over immigration reform is becoming more intense after President Obama yesterday announced executive action to give legal status to many undocumented residents.  

But will the impending debate shed any light on the important question of how immigration reform would affect our tax revenues? The good news is that for policymakers who choose to notice them, there are sensible estimates showing that at both the federal and state level, tax revenues are likely to go up as a result of legalizing our undocumented population. A 2013 Congressional Budget Office (CBO) report found that while immigration reform involves both costs (in the form of health, education and other services provided to legalized immigrants) and benefits (in the form of federal taxes paid by newly legal immigrants), in the long run, the benefits to the U.S. Treasury from immigration reform are likely to exceed the costs.

The news is good at the state level too: a 2013 report from the Institute on Taxation and Economic Policy (ITEP) shows that state and local budgets also will receive a new jolt of needed tax revenues as a result of immigration reform—and that undocumented taxpayers are already paying a substantial amount of state and local taxes across the nation. The report estimates that these families pay $10.6 billion a year in state and local sales, excise, income and property taxes, and would pay an additional $2 billion if they were, as part of immigration reform, allowed to fully participate in state tax systems.

While it is not yet clear what percentage of the undocumented workforce would be affected by this plan, it likely would bring in a substantial part of the potential $2 billion in state and local tax.

The $2 billion in new tax revenues ITEP estimates as a result of legalization is the product of two factors. Most importantly, legalization would bring all undocumented workers into the income tax system. The best estimates are that about half of undocumented workers are currently “off the books.” But legalization would also likely bring a substantial wage boost for these currently undocumented workers, further boosting state and local income tax collections as well.

To be sure, undocumented workers are already paying billions of dollars a year to support state and local services from which they benefit: far from simply consuming basic public services, these workers also are making an important contribution to funding their cost. But legalization could, if fully implemented, bring in billions of new revenues to help states dig out of their recent fiscal woes. The president’s plan is an important first step.

On Wednesday, the Washington Post’s Wonkblog reported on new data from the Congressional Budget Office, explaining that “President Obama appears to have achieved at least one of his goals for the nation’s pocketbook: The very richest Americans are finally shelling out a bit more in federal taxes.” But it’s important to not read too much into this. As the blog post illustrates with a graph from the CBO report, the average effective federal tax rate for the richest one percent was actually higher in the late 1990s when the economy was thriving.  

The blog post also notes that people in other income groups are also paying a bit more than they were before enactment of the “fiscal cliff” law that allowed several tax cuts to expire. We provided figures in 2013 showing that it had little effect on the overall distribution of the tax system because Americans at all income levels were, in fact, paying a bit more than would be the case if tax policies in effect in 2012 had been extended.

The term “fiscal cliff” actually described a sudden drop in the budget deficit that would have occurred if Congress did nothing in 2013, when several tax cuts were scheduled to expire and a health care tax for the rich was scheduled to go into effect. The fiscal cliff law made permanent most of the Bush tax cuts except some provisions that only benefited the rich. Lawmakers allowed a payroll tax cut for low- and middle-income Americans to expire, and the health care tax for the rich was allowed to go into effect. The result was slightly higher taxes for everyone.

Wonkblog does leave out a significant piece of the picture when it quotes the CBO report as saying the richest fifth of Americans receive “a little more than half of total before-tax income and paid more than two-thirds of all federal taxes in 2011.” The CBO data describe federal taxes alone. The CTJ figures include state and local taxes, which are generally regressive, and show that the tax system as a whole is just barely progressive.

Congress is considering two proposals related to taxes and the internet, one that would facilitate state and local governments in exercising their tax authority, and another that would restrict it. The first, a very good idea, would allow state and local governments to require internet retailers (and other remote retailers) to collect sales taxes from customers, just as any bricks-and-mortar store is required to do. The second, a bad idea, would continue and possibly expand a federally imposed ban on state and local governments taxing internet access the same way they tax other services.

A bill in the Senate combines these two proposals as a compromise, but the future of that legislation is cloudy given the vortex of political maneuvering and obstruction in that chamber.

The Good Idea: The Marketplace Fairness Act

The Marketplace Fairness Act would allow state and local governments to require internet retailers and other remote sellers to collect sales taxes from customers, just as bricks-and-mortar stores are required to do.

If a sales tax applies to something you’re buying, you’re supposed to pay it regardless of whether you make the purchase at a store, over the internet, or through a mail order catalogue. But the Supreme Court decided in 1992 that state and local governments cannot require a remote seller (which could include an internet retailer like Amazon if it has no physical presence in a given state) to collect that tax.

So if you buy something online and you’re not charged whatever sales tax applies, you are supposed to send that sales tax payment to the state or local government on your own. Few people comply with that requirement or even know it exists so, in effect, the Supreme Court decision turned us into a nation of sales tax evaders.  

The Court did leave Congress the option of addressing this problem by allowing state and local governments to require remote sellers to collect sales taxes, which the Marketplace Fairness Act would do. The Senate approved the bill last year with 69 votes — including 21 Republicans, 46 Democrats, and 2 independents that caucus with the Democrats.

It’s obvious why the bill has bipartisan appeal. Unlike other bills that mention the word “tax,” this bill does not raise taxes but only makes it possible to collect taxes that are already due (but rarely paid) under existing state and local law. It also addresses a major source of unfairness. Internet retailers are given an unfair advantage over bricks-and-mortar stores because the former allow customers to evade sales tax.

Opposition to the Marketplace Fairness Act sometimes focuses on the complexity a multistate company faces if it must collect the different sales taxes levied by many different jurisdictions. But retailers like Wal-Mart and Home Depot, which sell goods online and also have a physical presence in most states, have been collecting sales taxes on online purchases for years.

The Bad Idea: The Internet Tax Freedom Act

The Internet Tax Freedom Act, first enacted in 1998, banned state and local governments from taxing internet access. This seemed like a bad idea from the very beginning. Some of the same lawmakers who insist that the federal government not interfere with the economy and not intrude upon states’ rights rushed to restrict states’ taxing authority in a way that favored the internet relative to other services. The law was extended several times and is now scheduled to expire on December 11.

If anyone thought in 1998 that the internet was an “infant industry” that needed to be nurtured and subsidized, that argument is surely even weaker today than it was then.

In July, the House approved the Permanent Internet Tax Freedom Act. In addition to making the ban permanent, this bill would also repeal the grandfather provision that allowed seven states that had enacted Internet taxes prior to 1998 to keep those laws in place. This move would cost those states half a billion dollars in revenue each year. And the remaining states would collectively forgo billions in revenue that they could otherwise raise each year.

The Possible Compromise: The Marketplace and Internet Tax Fairness Act

The Marketplace Fairness Act has not advanced in the House and the Permanent Internet Tax Freedom Act has not advanced in the Senate. A group of Democratic and Republican Senators introduced the Marketplace and Internet Tax Fairness Act (MITFA) as a compromise. The bill essentially attaches the Marketplace Fairness Act to a 10-year extension of the ban on taxing internet access, leaving in place the grandfathering provisions for the seven states that levied such a tax before 1998.

As Senate Majority Leader Harry Reid began to advance MITFA in the Senate, House Speaker John Boehner signaled that he will not bring such a compromise to the House floor. It is unclear how this will be resolved. The worst possible outcome would be an extension or expansion of the ban on taxing internet access without action on the Marketplace Fairness Act. Given that Senate supporters of the latter are more than numerous enough to block passage of the former, they should ensure this does not happen.