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Justify Your Favored Tax Breaks… If You Can



IncomeOn June 27, 2013, Senator Baucus, Chair of the Senate Finance Committee and Senator Hatch, Ranking Member of the committee issued a call to everyone asking them to submit justification for keeping any tax break they believe should be in the federal tax law. They refer to this as a “blank slate”approach. That is, assume that none of the 200+ special tax breaks (“tax expenditures”) are in the tax law. If you believe any should be there, send them the reasons why. House Ways and Means Committee Chairman Camp called this idea “welcome news” (6/27/13 press release).

The senators refer to the Joint Committee on Taxation tax expenditure report to define what a tax expenditure is. The Joint Committee on Taxation does not count rules tied to the basic design of a type of tax as tax expenditures. For example, the JCT states in its February 2013 report:

“Under the Joint Committee staff methodology, the normal structure of the individual income tax includes the following major components: one personal exemption for each taxpayer and one for each dependent, the standard deduction, the existing tax rate schedule, and deductions for investment and employee business expenses.” (page 3) The JCT also notes that the carryover of net operating losses is a normal part of an income tax. (page 8)

I can’t think of any deduction, exclusion, credit or special rate that is crucial to our tax system. The provision that likely saves me the most tax dollars is the exclusion for employer-provided health insurance.  But, I should be paying income and payroll taxes on that benefit – it is income and something that not all individual filers get benefit of.  This is also the largest tax expenditure – over $110 billion per year. Removal of this special tax rule ought to allow for a drop in the individual tax rates. Some will argue that people will drop their employer-provided health insurance if it becomes taxable. I doubt it because the tax you pay on it is likely to still be far less than if you get your own insurance and pay for 100% of its cost. And, this change might also lead to a drop in insurance costs when the policy holders actually know the cost of that coverage.

The research tax credit is an incentive to conduct research in the US which is a good idea. And it also helps cover some of the spillover benefit others get from a company’s research. So there is some justification for this credit even in the blank slate approach to tax reform, but it needs to be weighed against a lower tax rate and a simpler system. A simpler credit is likely still a good idea, as is expensing R&D rather than capitalizing and amortizing it (and simpler, and it is just a timing difference).

Ok – I’d also argue for allowing small businesses, even those with inventory to use the cash method rather than accrual because it is easier for them. This is just a timing item, so really not a significant cost. Also, the term “tax expenditure” is not viewed by everyone the same way. The JCT treats use of the cash method of accounting by a business to be a tax expenditure, but the Treasury Department does not.

What special tax rules can you justify keeping – and what is the justification?

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Annette Nellen, CPA, Esq., is a professor in and director of San Jose State University’s graduate tax program (MST), teaching courses in tax research, accounting methods, property transactions, state taxation, employment tax, ethics, tax policy, tax reform, and high technology tax issues.

Annette is the immediate past chair of the AICPA Individual Taxation Technical Resource Panel and a current member of the Executive Committee of the Tax Section of the California Bar. Annette is a regular contributor to the AICPA Tax Insider and Corporate Taxation Insider e-newsletters. She is the author of BNA Portfolio #533, Amortization of Intangibles.

Annette has testified before the House Ways & Means Committee, Senate Finance Committee, California Assembly Revenue & Taxation Committee, and tax reform commissions and committees on various aspects of federal and state tax reform.

Prior to joining SJSU, Annette was with Ernst & Young and the IRS.

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