Fundamental Tax Reform: A Comparison of the Major Proposals

Introduction

Tax reform has moved to the front burner as an issue in the 1996 presidential campaign. Many prominent members of Congress are also supporting various proposals to fundamentally reform the federal tax code. For example, House Ways and Means Committee Chairman Bill Archer (R-TX) has advocated replacing the income tax with a broad-based tax on goods and services, and Senate Finance Committee Chairman William Roth (R-DE) has long supported fundamental tax reform to increase investment incentives and offset the regressivity of the payroll tax.

Two factors seem to be driving the current tax debate:

  • In an election year, candidates search for issues to set them apart and allow them to offer voters the hope of stronger economic growth and job creation. Tax reform serves this purpose well
  • Scholars, policymakers, and the American public are becoming increasingly aware that the U.S. federal tax code is biased against the saving and investment that is critical to improving the U.S. economic growth rate. Fundamental tax reform could ameliorate this bias.

 

The recently released report of the National Commission on Economic Growth and Tax Reform, the commission created by Senator Bob Dole (R-KS) and Congressman Newt Gingrich (R-GA) and chaired by former Department of Housing and Urban Development Secretary Jack Kemp, recognizes the importance of restructuring the federal tax code in order to provide more incentives for saving and investment as well as making the system simpler and fairer. The Kemp Commission recommendations are very general and thus are not included in the comparison that follows. The report’s core recommendations include: (1) end biases against work, saving, and investment; (2) adopt a single, low rate tax with a generous personal exemption; (3) lower the tax burden on America’s working families and remove it on those least able to pay; (4) allow full deductibility of the payroll tax for working men and women; and (5) require a two-thirds super-majority vote in Congress to increase tax rates.

By providing this comparison of the major tax reform proposals being discussed, the ACCF Center for Policy Research furthers its historical mission of redefining and restructuring U.S. tax, regulatory, and environmental policies so that this country can increase the pace of economic growth, provide high-quality jobs, and compete effectively in world markets. The ACCF Center for Policy Research hopes this Special Report, which categorizes the tax reform proposals into two broad categories: consumption-based taxes and income taxes, will help further the debate as policymakers, the American public, and the media confront the prospect of significant changes in the current tax code.

 

MAJOR CONSUMPTION TAX PROPOSALS
Flat Tax USA Tax Retail Sales Tax Value-Added Tax
Description Congressman Richard K. Armey (R-TX), and Senator Richard Shelby (R-AL) have introduced H.R. 2060/S. 1050, the Freedom and Fairness Restoration Act. Senator Arlen Specter (R-PA) introduced similar legislation (S. 488). The bills replace the current individual and corporate federal income taxes with a flat tax which approaches a pure consumption tax. Presidential candidate Steve Forbes also supports a flat tax. Senators Sam Nunn (D-GA) and Pete V. Domenici (R-NM) have introduced S. 722, the Unlimited Savings Account Tax (USA Tax). The bill would replace the individual and corporate federal income taxes and provide a credit for Social Security and health insurance taxes paid. USA is a consumption tax for individuals and a subtraction-method value-added tax (VAT) for businesses. Congressmen Dan Schaefer (R-CO) and Billy Tauzin (R-LA) plan to introduce the National Retail Sales Act of 1996 in the next several months. The bill would replace the current individual and corporate federal income tax with a national retail sales tax (NRST) on final consumers. Senator Richard Lugar (R-IN) is also supporting a retail sales tax (RST) on final consumers as a replacement for the current individual and corporate federal income tax, but he has released only an outline. Congressman Sam M. Gibbons (D-FL) has proposed to replace the current individual and corporate federal income tax and the Social Security tax with a simplified value-added tax (VAT). A new personal income tax addresses the regressivity of the VAT. The proposal has not been introduced as legislation. Senator Ernest F. Hollings (D-SC) has introduced S. 237, the Tax Reform and Competitiveness Act, creating a 5 percent VAT; revenues are allocated to federal debt reduction and health care reform. S. 237 is an “add-on” to the federal income tax.
Major Features of Individual Tax
Flat Tax USA Tax Retail Sales Tax Value-Added Tax
Tax Base Includes Wages, salaries, personal service income, and pension distributions (except Social Security benefits). Wages, salaries, fringe benefits, interest and dividends received which are not reinvested, capital gains not reinvested, inheritances, rent, the includable portion of Social Security, profits from business activity, and reductions in net saving. Individuals do not file a tax return unless they are engaged in retail business. Gibbons: Base for new income tax is not specified.Hollings: No change to income tax.
Tax Base Excludes Interest and dividends received, rent, capital gains, inheritances, and foreign source income. However, interest and dividends are taxed at the business level. Net increase in saving and repayment of debt. No specific exclusions, although in the final version of the Schaefer/Tauzin NRST some may be allowed. Gibbons: Not specified.Hollings: No change.
Deductions/Adjustments Armey/Shelby: NoneSpecter: Limited home mortgage and charitable contributions.

Forbes: None

Mortgage interest, charitable contributions, tax-exempt bonds, tuition (up to a limit), net new saving. N.A. Gibbons: Not specified.Hollings: Not specified
Personal Exemptions, Family of Four Armey/Shelby: $31,400;Specter: $25,500;

Forbes: $36,000.

$17,600 Schaefer/Tauzin allows a tax-free level of income equal to the poverty level of income. Gibbons: Not specified.Hollings: No change.
Tax Rate Armey: 20 percent (17 percent after 1996)Specter: 20 percent

Forbes: 17 percent

Progressive rates of 8-40 percent are phased in over 5 years. Effective rate would be lower than statutory rate for most taxpayers due to payroll tax credit. Schaefer/Tauzin propose a tax in the range of 13-17 percent; final rate not yet determined.Lugar: 17 percent. Gibbons: Rate not specified.Hollings: 5 percent.
Payroll Tax No change. Refundable credit for employee portion of payroll taxes. No change. Gibbons: A new low-income credit will be provided to offset the regressivity of the VAT.Hollings: No change.
Earned Income Tax Credit Armey/Shelby and Specter: repealed;Forbes: no change Credit would be revised to reflect shift from income to consumption tax base. It would retain current code’s progressivity. Repealed. Schaefer/Tauzin may provide a new low income tax credit. Gibbons: Repealed.Hollings: No change.
Major Features of Business Tax
Flat Tax USA Tax Retail Sales Tax Value-Added Tax
Tax Base and Deductions/Adjustments All businesses subject to the flat tax. Tax base is gross revenue less purchases of goods and services, capital equipment, structures, land, and wages and pension benefits paid to employees.Tax and interest expense, and fringe benefits such as health insurance are not deductible. All business are subject to the USA Tax. Tax base is gross revenue less purchases of goods and services, capital equipment, structures and land, and state and local government taxes.Wages and salaries, tax and interest expense, fringe benefits and pension benefits such as health insurance are not deductible. All businesses must collect the NRST on final sale to consumer. Sales from one business to another are exempt to prevent cascading. Tax base is gross revenue from each retail sale of goods and services. Gibbons: All businesses subject to the VAT. Tax base is gross revenues less purchases of goods and services, capital equipment, structures, and land. Tax base is computed using the subtraction method.Hollings: All businesses except those tax exempt are subject to tax. Tax is computed using the invoice-credit method.
Foreign Source IncomeExports and Imports All foreign income is exempt from tax. The tax is imposed on an “origin” basis (income from production of goods and services is taxed in country where produced); no deduction for exports nor any taxation on imports. All foreign income is exempt from tax. The tax is imposed on a “territorial” basis (only consumption within the United States is taxed). Exports are exempt and imports are taxed. All foreign source income is exempt from tax. The tax is imposed on a “territorial” basis (only consumption within the U.S. is taxed). Exports are exempt and imports are taxed. Gibbons: All foreign source income is exempt from tax. The VAT is imposed on a “territorial” basis (only consumption within the U.S. is taxed). Exports are exempt and imports are taxed.Hollings: No change in foreign source income taxes. Exports are exempt and imports are taxed.
Tax Rate Armey: 20 percent (17 percent after 1996).Specter: 20 percent.

Forbes: 17 percent.

11 percent. Employee portion of the payroll tax can be credited against the business tax. Schaefer/Tauzin propose a tax in the range of 13-17 percent; final rate not yet determined.Lugar: 17 percent. Gibbons: Rate is not specified, however, the proposal states that it will be set so as to replace the revenue lost when the current individual and corporate income tax as well as the payroll tax are repealed.Hollings: 5 percent.

 

MAJOR INCOME TAX PROPOSALS
Gephardt 10 Percent Tax Gramm Flat Tax Buchanan Flat Tax
Description Congressman Richard A. Gephardt (D-MO) has proposed broadening the income tax base by eliminating many of the current deductions and exclusions, and instituting a lower, progressive tax rate schedule. The proposal has not been introduced as legislation. Senator Phil Gramm (R-TX) has proposed broadening the income tax base by eliminating many of the current deductions and exclusions and instituting a flat tax on income. The proposal has not been introduced as legislation. Patrick Buchanan has proposed broadening the income tax base by eliminatingĀ many of the current deductions and exclusions. His proposal would also lessen the current double taxation of investment income.
Major Features of Individual Tax
Gephardt 10 Percent Tax Gramm Flat Tax Buchanan Flat Tax
Tax Base Includes Wages and salaries, fringe benefits such as health insurance, employer-sponsored pension contributions, interest (both taxable and also interest which is exempt under current law), dividends, capital gains, business income, rents, royalties, unemployment compensation, and taxable portion of Social Security benefits (as under current law). Wages and salaries, interest, dividends, and capital gains (indexed prospectively for inflation). Details not yet decided on taxation of fringe benefits and pension contributions. Wages and salaries, and capital gains.
Deductions/Adjustments Only the following are allowed: mortgage interest, ordinary business expenses, investment interest expenses, alimony paid, half of self-employment taxes. Only the following are allowed: mortgage interest, charitable contributions. Only the following are allowed: mortgage interest, charitable contributions, interest and dividend income.
Personal Exemptions, Family of Four $19,350 $32,000 $25,000
Tax Rate Progressive rates of 10-34 percent, however, the proposal states that 75 percent of taxpayers would pay the 10 percent rate. 20 percent (dropping to 16 percent over a three-year period). 15 percent on ordinary income. Capital gains will receive a preferential rate for 6 months, then revert to 15 percent.
Payroll Tax No change. No change. Repealed.
Earned Income Tax Credit No change. No details, but proposal states that entitlement programs will be revised. Repealed.
Estate and Gift Taxes No change. Repealed. Modified; standard exemption increased to $5 million, a 20 percent tax rate on estates above that.
Major Features of Business Tax
Gephardt 10 Percent Tax Gramm Flat Tax Buchanan Flat Tax
Tax Base and Deductions/Adjustments No details provided. Gephardt proposes to raise taxes on large corporations by $50 billion through elimination of provisions in the current code. No details provided, however, Gramm states that he supports a “transition” to a flat corporate rate and the indexation of depreciation schedules for inflation. Few details provided, however, income taxes on small business would be sharply reduced, corporate rate would be flat.
Foreign Source Income
Exports and Imports
No details provided. No details provided. Imposes a 10 percent tariff tax on imports from Japan;Ā 20 percent tariff on imports from China.
Tax Rate No details provided. No details provided. No details provided.