While one goal of a bipartisan panel tasked with overhauling the
U.S. tax code was simplification for small businesses, the
panel's proposals could prove costly for business and have
unintended consequences for the U.S. economy.
Indeed, the housing industry is already bracing for potential
fallout from a proposed repeal of the popular mortgage interest
deduction, which would be replaced with a credit worth 15 percent
of interest paid during the year. "The housing market drives
about 12 percent of the economy," says Martin Regalia, chief
economist and vice president of economic policy for the U.S.
Chamber of Commerce. "There's a tremendous section of the
economy involved--housing, home building and home furnishing--and
they could be significantly hurt when the immediate adjustments
would take place."
The proposal is among several the Treasury Department is
weighing as it evaluates two comprehensive tax reform plans from
the Tax Advisory Panel appointed by President Bush. The first plan,
the Growth and Investment Tax Plan, taxes income from dividends,
capital gains and interest at a flat rate of 15 percent, and it
taxes businesses that are not sole proprietorships at a flat rate
of 30 percent. The other recommended option, the Simplified Income
Tax Plan, would set the top tax rate at 33 percent and allow
exclusions for dividends and capital gains from U.S. firms, though
it would tax interest at regular income-tax rates.
Content Continues Below
Both plans allow businesses to write off their investments
immediately. Also, Sen. John Kerry (D-MA) and Sen. Gordon Smith
(R-OR) have introduced a bipartisan bill that would give the
Treasury Department authority to modify or create class lives for
capital assets that could be used to establish more practical
depreciation allowances. Additionally, the bill would ensure that
the current law permitting small businesses to immediately write
off the cost of equipment and other qualifying capital expenditures
up to $100,000 each year would not expire in 2007.
Simplicity for small businesses was an overriding concern, says
Tax Advisory Panel member Elizabeth Garrett, a law professor at the
University of Southern California in Los Angeles. "A lot of
[small businesses'] cost of taxes is not actually what they
send to the government, but rather the record-keeping and
compliance burdens that fall very heavily on small
businesses," she explains.
Second, the panel was concerned that entrepreneurs often choose
a business structure, such as an LLC or S corporation, on the basis
of taxes rather than "what organization is best to deliver the
goods and services that you want to deliver," Garrett says.
"And if you make the wrong decision, it can have disastrous
tax consequences."
Despite simplification efforts, Regalia says the panel's
proposals miss their mark. His biggest complaint: the lack of
transition rules. "They specify some fairly dramatic changes
in the tax code and treat them as if they have no dislocation
effects at all, like people are going to instantaneously adjust and
everyone [will be] all right," Regalia says. "In fact,
you've got some significant adjustment costs to these types of
fundamental changes in the tax code."
Regalia predicts real reform is still a long way off and will
only happen incrementally. Along those lines, business owners would
like to see a permanent repeal of the estate tax and a permanent
extension of the Section 179 expensing deduction, which allows
businesses to fully deduct qualified capital expenditures for the
year. Says Regalia, "I think the biggest thing businesses
would like to see is real, fundamental tax reform rather than a
grandiose approach to tax reform."