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Election-year tax reform? Dream on

The candidates all talk about improving the system, but there is no consensus on what to change. Closing 'loopholes' is unlikely to win votes.

By MSN Money Partner Feb 7, 2012 12:45PM

This post is by Tom Raum of The Associated Press.


Tax reform sounds like a good idea to lots of people, but where to start? Eliminate the popular deduction for home mortgages? End the write-off for charitable contributions? How about expanding the Social Security payroll tax?


Not likely.


Politicians of all stripes in this presidential election year are clamoring for simplifying the tax code and closing loopholes. But that would mean Americans would lose some of their prized deductions.


Not that Congress is likely to end tax breaks for home loans or religious and charitable contributions anytime soon. President Barack Obama and his chief Republican challengers -- Mitt Romney and Newt Gingrich -- certainly aren't advocating that.


In fact, recommendations to trim the mortgage deduction made in 2005 by a tax-overhaul panel convened by then President George W. Bush and again in 2010 by a deficit-reduction committee set up by Obama were ignored by both those presidents. (Post continues below video.)

Overhauling the complex U.S. tax code likely would mean that for everyone who would pay less, someone else would have to pay more. And every existing provision in the code already has staunch advocates.


"Tax reform is ferociously difficult. If you tackle it straight up, the likelihood of success is rather small," said Henry Aaron, a senior fellow in economic studies at the Brookings Institution. "Whenever you try to take money away from somebody, they will fight harder to keep it than will those who stand to gain."


And if deficit reduction is also a goal, it makes the job that much harder.


One recent example: A bipartisan deficit-reduction congressional "supercommittee" failed to meet a Thanksgiving 2011 deadline and had to disband when it could not find common ground on tax changes.


Expiration of Bush tax cuts


None of the major tax overhaul proposals now on the table seems likely to be enacted, given the current political rancor in Washington.


Of course, a lot could depend on the outcome of the November elections.


Both parties are now focused on the Bush-era tax cuts, scheduled to expire at year's end. Republicans generally want to make them permanent. Democrats would like to let them expire for the wealthy but keep them at present levels for all others.


The income tax as we now know it has been around for nearly 100 years, and it's had only a few major overhauls.


The last major restructuring came in 1986, when Republican President Ronald Reagan and Democratic House Speaker Thomas P. "Tip" O'Neill were able to put aside their political differences to strike a grand deal that both simplified the tax code and lowered rates on most individuals.


"To get comprehensive tax reform, you have to have tremendous presidential leadership. There's no way around that to be successful," said Douglas Holtz-Eakin, who was the director of the Congressional Budget Office from 2003 to 2005 and now heads the American Action Forum, a conservative public policy institute.


No consensus on reform


In addition to being a hot issue on the campaign trail, tax reform is also being closely studied by congressional leaders who oversee tax-writing, Holtz-Eakin said. "So with all the key players all saying 'Let's do it,' I think that's promising."


"Now the next issue is, what is 'it'?" There, we don't have a consensus," he added.


Obama has proposed ending tax breaks for U.S. companies moving jobs or profits to foreign countries. He also would create a minimum tax on their overseas earnings. And he has suggested new tax breaks for businesses that move jobs back to the United States, for domestic manufacturing and for companies that invest in towns that have suffered major job losses. But getting most attention is his plan to tax personal incomes above $1 million -- including investment income -- at a rate of at least 30%.


"Washington should stop subsidizing millionaires," Obama said in his State of the Union address earlier this year. "Send me these tax reforms, and I'll sign them right away."


Obama also wants to see corporate taxes lowered, but he hasn't said by how much. The White House has signaled he'll unveil details Feb. 13 when he submits his budget for the fiscal year that begins Sept. 1.


The nominal corporate tax rate is 35%, the highest in the world after Japan. However, few companies pay that much after availing themselves of various tax breaks. Because of recent special deductions in the government's stimulus programs, including the ability to write off the full cost of purchases of new equipment, corporations last year paid just over 12% on average. That is expected to rise to about 26% this year, according to Congressional Budget Office calculations.


Romney would make permanent most Bush-era tax cuts and would eliminate taxes on interest, dividends and capital gains for those earning under $200,000. He would lower the corporate tax rate to 25%.


Jobs and tax reform have been leading issues in the GOP primaries so far. Most Americans believe that the tax system is unfair and would like to see it changed, recent polls suggest. The polls show a majority believe upper-income Americans pay less than their fair share, although far more Democrats believe this than Republicans. There is also a big political divide over whether to keep the current system of taxing investment income -- such as dividends and capital gains -- at lower rates than wages. Far fewer Democrats than Republicans want to keep things the way they are, polls show.


GOP plans would benefit wealthy


Romney, one of the richest presidential candidates ever, recently disclosed that he paid federal taxes at an effective rate of around 15% because most of his income came from investments that are taxed at that rate, compared with a top rate of 35% for wages. That disclosure has helped fuel the recent surge of interest in tax reform.


Gingrich would let people choose whether to file under the current system or pay a 15% "flat" tax while preserving the mortgage interest and charitable deductions. The former House speaker would eliminate the capital gains and estate taxes and would cut the corporate tax rate to 12.5%.


Former Sen. Rick Santorum, R-Pa., would reduce the number of tax brackets to two -- 10% and 28% -- asl well as exempt domestic manufacturers from the corporate tax and halve the top rate for other businesses. He would triple the personal exemption for dependent children.


Rep. Ron Paul, R-Texas, would eliminate the federal income tax altogether, as well as the Internal Revenue Service. He would vote for a national sales tax, and he supports certain excise taxes and certain tariffs.


The nonpartisan Tax Policy Center has said that the wealthy would be the biggest beneficiaries of the Romney, Gingrich and Santorum tax plans. The center did not evaluate Paul's plan.


The Tax Reform Act of 1986 backed by Reagan and O'Neill reduced the number of tax brackets and lowered the top marginal tax rate to 28% from 50% (it's now 35%).


The reduction in individual taxes was paid for in large part by repeal of the investment tax credit, which effectively raised corporate tax payments to the Treasury by 25%, or about $100 billion a year in today's terms.


But the political climate was far difference in 1986. Reagan was a popular second-term president with a good working relationship with Congress. The deficit was under control and the economy was growing, not limping like now.


Economist Bruce Bartlett, author of "The Benefit and the Burden: Tax Reform -- Why We Need It and What It Will Take," is not optimistic for major tax reform no matter who wins the election.


"I think the most we can hope for is a modest improvement to fix some glaring problems in the code," he said.


As to those calling for starting from scratch with a whole new tax system such as the so-called fair tax or flat tax, "I don't believe that's going to happen," Bartlett said. "I think that's just a political non-starter."


Copyright 2012 The Associated Press. All rights reserved. This material may not be published, broadcast, rewritten or redistributed.


More from MSN Money:


Feb 8, 2012 10:41PM
As abstract as this sounds, I'll try to get this straight as it was published. They are considering a surtax of some sort on the rich to help pay for the payroll tax extension. Included will be raising unemployment another 10 months which will take it to almost 3 years. In addition, they want singles making over $85,000 and married jointly over $170,000 to pay more for their medicare part B up to $400.00 a month. The argument there is that the affluent will opt out of part B and get insurance elsewhere putting a further strain on the program. Also as Medicare is an unlimited flat tax, the more that you make----the more they take.  In fact, you'd be asking people to pay more for it twice---once when working----once again when you apply for it.  Remember, HCR took 500 billion out of Medicare and Medicare Advantage plans and now they're trying to stop the 27% payment reduction to doctors that they did in the first place. There are simpler ways to get these things done, but then again when is anything that they do simple???
Feb 8, 2012 10:24AM
TAX REFORM is the biggest issue of our time but  we have to talk about contraception! Our current tax policies have allowed 400 families to have more money than 50% of the rest of the nation combined and we continue to re-distribute the money to the top through the code. These tax policies are a THREAT TO LIBERTY. You can see the threat in action by the contributions made  to the SUP PACS that support Romney. Money will buy the topics of discussions and cause people to vote against their own interest. So let's talk about contraception, gays, WMD in Iran, abortion,  the NRA, Planed Parenthood, Acorn, Birth certificates, etc etc etc....
Feb 7, 2012 2:20PM
Being a "cash" small business, as "Mom and Pop" pizza and sub shops often are, can make it very tempting, if not downright easy, to under report income.  Who really knows how many subs or pizza pies are sold if one engages in some creative cash register work. I realize the IRS can look at how much flour and sauce and cheese you bought, but hey, any shop owner worth his or her salt will simply say I'm generous with the mozarella.  How many pizza boxes you bought may be harder to work around, however.

Maybe it is time for a VAT system. $9.99 for the pizza ( yes, Herman, I still associate 9-9-9 with pizza) plus state sales tax and VAT of around 20% and we can do away with the tax code.
Feb 27, 2012 9:15AM
it seems this topic is split between parties or individuals that are rich or want to get rich at the peoples' expense that are neither. how 'bout a candidate running for office that is already rich offering to contribute half of his wealth to say, the social security fund, or medicare fund if elected. how about electing someone that will listen to the majority of people who want to have  enough money to just pay their bills and put food on the table? no such politician!!
Feb 7, 2012 6:17PM


Economist Bruce Bartlett, author of "The Benefit and the Burden: Tax Reform -- Why We Need It and What It Will Take," is not optimistic for major tax reform no matter who wins the election.
"I think the most we can hope for is a modest improvement to fix some glaring problems in the code," he said.


And just what do you think those glaring problems are, Bruce?


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