Desperately Seeking Bipartisan Tax Simplification

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WASHINGTON--With President Obama and the Democratic leadership in Congress required to pass legislation this year to prevent the Bush tax cuts from expiring on December 31, two senators - a Republican and a Democrat - are offering a bill that would simplify the tax code for individuals by lowering rates and eliminating some deductions.

Senators Ron Wyden (D-OR) and Judd Gregg (R-NH) would also slash tax rates on corporations while broadening the taxable corporate income base by eliminating certain breaks in present law, especially for energy producers.

Gregg and Wyden call their bill the Bipartisan Tax Fairness and Simplification Act of 2010. They may have a behind-the-scenes-advocate in the person of Rahm Emanuel, the White House chief of staff, who, while still a representative (D-IL), sponsored a similar bill with Wyden in 2007.

In other words, with tax legislation in 2010 a seeming inevitability, the two senators from different parties and opposite sides of the country are offering what they hope will be a template for tax reform - if Congress can find emotional resources to take on a second big reform bill in this election year after the bruising battle over health care.

Gregg, in a telephone interview, said that "these changes take a long time to germinate," but he believes that his bill is popular because it simplifies the tax code and encourages capital formation.

The Gregg-Wyden bill would change the way the government taxes individual and corporate income and capital. Moreover, the bill moves the U.S. tax system towards a more efficient consumption tax by including generous Lifetime Savings Accounts and Retirement Savings Accounts, allowing the vast majority of Americans to save entirely tax-free. Canada implemented similar tax-free savings accounts on Jan. 2, 2009.

The bill would replace the tax code's six individual income tax brackets, now ranging from 10% to 35%, by three brackets. Joint filers earning up to $75,000 in taxable income would face a 15% tax; those earning over $75,000 to $140,000 would face a 25% tax; and the 35% tax would be applied to income above $140,000.

Brackets for singles would be half the size of those of joint filers. One intended result would be to end the "marriage penalty" in current law that raises the combined tax bill of two working people if they marry, a penalty that has been exacerbated by the passage of health care legislation.

The alternative minimum tax would be eliminated entirely. That would be a boon to millions of middle-class Americans living in high-tax states with large families, who are predominantly hit by the tax today.

Long-term capital gains and dividends would be taxed differently. They would be subject to a 35% exclusion, and the remaining 65% would be taxed at regular income tax rates. For those in the 35% bracket, the tax rate would rise to 22.75% from 15% now. Taxpayers in the new 25% bracket would face a rate of 16.25%, and those in the 15% bracket would pay 9.75%.

The standard deduction would be set at $30,000 for joint filers (it's $11,400 for 2009) and $15,000 for singles (vs. $5,700). This would be significant tax relief for middle-income earners who are not homeowners and don't itemize their deductions.

Wyden and Gregg take care to retain many popular deductions and credits, such as those for mortgage interest, charitable contributions, health care, retirement savings, education, the child credit, and the earned income tax credit. Others, such as those for employer-provided "cafeteria" plans, moving expenses, and some miscellaneous itemized deductions would be eliminated.

The bill would replace the six corporate tax rates with one, 24%, lowering the top rate from 35%. In contrast to individual deductions, the bill takes a more aggressive approach to broadening the taxable income base by repealing several deductions, especially for energy production.

The bill's effects on the deficit depend on whether it is compared to present law, to current policy extended, or to the tax proposals in President Obama's 2010 budget. Although the bill has not yet been officially scored by the Joint Committee on Taxation, it would avert tax increases scheduled to occur at the end of the year and is guaranteed to reduce taxes significantly relative to current law.

According to the Congressional Research Service, the bill loses $495 billion over 10 years compared to an extension of current policy, chiefly from corporate tax relief. Compared to the Obama budget, both individuals and corporations pay less in taxes, for a combined revenue loss of $855 billion over the next decade.

The bill proposes assorted offsetting revenues of $662 billion, including revenues from licensing and taxing Internet gambling. An additional $230 billion of corporate and business-related spending and transfers, as yet unspecified, would be selected by Congress.

The bipartisan nature of the bill may mean that some Democrats dislike the lower income tax rates, and some Republicans believe that taxes on capital shouldn't rise. Why, for example, does the bill retain deductions for mortgage interest and charitable deductions, but get rid of those on energy exploration-at a time when we need domestic energy production? But it's a step forward that a pair of senators from both parties can put forward a substantive proposal.

Perhaps debate on Gregg-Wyden will remind Congress that it once - a quarter-century ago - recognized the desirability of tax simplification, and would be well-advised to re-embrace that goal in 2010 and later tax legislation.

Diana Furchtgott-Roth, former chief economist at the U.S. Department of Labor, is senior fellow and director of Economics21 at the Manhattan Institute. Follow her on Twitter: @FurchtgottRoth.   

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