- (Bloomberg) -- U.S. President George W. Bush's tax advisory
panel may recommend a fundamental overhaul of the current system, replacing
it with a variation of the flat tax that would abolish most deductions
and end levies on investment income.
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- The panel plans to present Bush with several options
for restructuring the tax code, including the creation of a new system
that rewards savings, discourages borrowing, stimulates business investment,
and simplifies tax filing for individuals, according to panel members and
outside experts on whom they relied. The modified flat-tax proposal will
be considered and possibly endorsed during the panel's final meeting today,
they said.
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- "I would bet big money'' that panelists will recommend
such a plan, said William Gale, a senior fellow at the Brookings Institution,
a research group in Washington, who testified before the panel.
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- Such a system would face an uphill battle for congressional
approval because it would impose a radical reordering of tax rules for
companies, financial markets and the economy. The plan would also raise
concerns about whether it would shift the tax burden from wealthy individuals
to salaried employees, experts said. Proponents say the new system would
be simpler and would promote economic growth by encouraging savings and
investment.
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- "I think it's going to land with a thud,'' said
Pamela F. Olson, a lawyer at Skadden, Arps, Slate, Meagher & Flom LLP
in Washington, who served as assistant secretary for tax policy in Bush's
Treasury Department from 2002 to 2004.
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- Borrowing Costs
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- Under the proposal, U.S. companies would stop issuing
bonds, municipalities would face higher borrowing costs, the housing and
life insurance industries would become less attractive to investors, Olson
and other experts said. No one is quite certain how financial services
companies would be taxed, they said.
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- Individuals living off investments would pay nothing,
while wage earners would continue to have taxes withheld from their paychecks;
people earning higher salaries would pay higher rates without the benefit
of popular deductions, such as breaks for mortgage interest.
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- The President's Advisory Panel on Federal Tax Reform,
formed in January, is due to make its recommendations to the Treasury Department
on Nov. 1. Chairman Connie Mack, a former Republican senator from Florida,
has said it will offer at least two proposals that the Bush administration
can use as a blueprint for a rewrite of the tax code.
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- Top Priority
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- White House officials and congressional Republicans have
indicated that Bush may make tax overhaul his top domestic priority next
year. With the demise of his Social Security revision plan and conservative
resistance to immigration changes, there may be few other options.
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- A second, less-ambitious tax option the panel is considering
would aim to simplify the current system by repealing the alternative minimum
tax and curbing dozens of tax breaks, including popular ones benefiting
homeowners and those receiving employer-provided health care.
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- The panel last week rejected recommending a national
sales tax, a step advocated by congressional Republicans such as Georgia
Representative John Linder and South Carolina Senator Jim DeMint.
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- The panel's staff director, Jeff Kupfer, said the flat-tax
proposal the panel will consider today is a variation of the so- called
``X tax'' devised by David Bradford, an economist at Princeton University
in New Jersey who died in February.
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- Leading Option
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- Four of the panel's members--Massachusetts Institute
of Technology economist James Poterba, Stanford University economist Ed
Lazear, Charles Schwab & Co. Inc. chief investment strategist Liz Ann
Sonders and former Louisiana Senator John Breaux--have been studying Bradford's
proposal as a leading option for fundamental overhaul of the current system.
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- Bradford's proposal, which panel member Charles Rossotti
described on Oct. 5 as a ``framework'' for deliberations, is a variation
of the original flat tax devised by Stanford economists Robert Hall and
Alvin Rabushka in the early 1980s. It has two parts, a business tax and
a wage tax.
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- The "X tax'' proposal would end taxation of investment
income and interest deductions for businesses and individuals. It would
also set a single rate for all businesses and allow unlimited write-offs
for equipment purchases. Individuals would be taxed only on their wages.
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- In his proposal, Bradford set graduated tax rates on
wages with a top rate of less than 30 percent, while the Hall and Rabushka
proposal sets a single rate of about 19 percent on all wages over a set
amount of about $41,000 for a family of four.
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- Under both systems, individuals would pay no taxes on
interest, dividends or capital gains. They also would lose deductions for
home mortgage interest, charitable contributions and state and local taxes.
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- Not Taxable
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- "Things that some people have come to view as income
and are used to being taxed on would not be taxable anymore,'' said Joel
Slemrod, director of the Office of Tax Policy Research at the University
of Michigan in Ann Arbor and a former member of President Ronald Reagan's
Council of Economic Advisers.
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- Gale said Bradford's proposal to allow graduated rates
on wages ``is an effort to take the flat tax and make it more progressive.''
To forestall taxpayer opposition triggered by the loss of the home-mortgage
deduction, Gale said panelists might preserve incentives for homeownership
by providing a tax credit instead.
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- Leveraged Companies
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- The flat-tax idea represents an even more radical change
for businesses, and not all of them would benefit, especially highly leveraged
companies and those that lose money, analysts said.
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- All businesses would pay at a rate equal to the top rate
for individuals, eliminating current differences between large corporations
and small businesses. Businesses would pay tax on the sale of all goods
and services and receive no deductions except for wages paid. Interest,
dividends and capital gains would be tax-free.
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- The plan's "central feature'' is abolition of deductions
for interest paid, Gale said. "If you don't take away interest deduction,
the whole thing doesn't work.''
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- Michael Decker, senior vice president for research and
public policy at the Bond Market Association in Washington, said such a
proposal would make it less attractive for companies to borrow money and
cause a reordering of the fixed-income securities market. Companies would
race to retire high-interest notes, and municipal-bond yields would rise
as investors devalue their tax-favored status and bid down prices.
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- "You would be shifting some of the tax preference
away from debt, toward equity,'' Decker said. "You would probably
see some recapitalization, especially highly leveraged companies.''
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