The preemptive obituaries for tax reform have listed myriad causes of death: the stasis of our deliberative government, the tension between mobilized stakeholders, the sheer mechanics of balancing interests in a system with such wide reach — the list is seemingly endless. That Washington is, by nature, institutionally inert makes the pessimism that big things can be accomplished forgivable. But in an era when we reward disruption and demand innovation to modern challenges, why shouldn’t we insist that our government rise to the challenge?
There are practical obstacles that can be disposed of if lawmakers stay focused on the goal of reforming the tax code. Requirements that have proven difficult in the past can be discreet tools if used correctly.
First, Congress must adopt a budget that opens up reconciliation for tax reform. This will allow the bill to pass with a lower vote threshold in the Senate.
Congress would be wise to telegraph confidence in accomplishing tax reform with a budget that is unambiguous about getting it done. Ever since Republicans took back control of the House in 2010, the budget plan has been a bold, vision-setting platform that has made clear conservatives are dedicated to rethinking the proper size and scope of government. The resulting spending reform that has dialed back the baselines swollen under the first two years of the Obama administration shows Republicans are prepared to maintain that commitment. Lawmakers eager to break the budget caps that have been the law of the land for six years are now working against inertia, not with it.
There is an opportunity this year to do the same with tax reform. In the past, policymakers have been distracted by demanding the blueprint read as a conservative wishlist, instead of a governing charter. With the opportunity to enact the biggest pro-growth change to economic policy in over a generation, serious lawmakers should recognize the power they have with a budget that charts bold but attainable expectations.
Once the budget is passed and reconciliation is opened up, a host of additional issues must be addressed. In order for the tax package to be made permanent, and thus maximize economic growth, it must not increase the deficit in the short or long term. That means prioritizing tax relief and balancing it out with revenue raisers that won’t have a substantially-negative impact on economic growth.
Smart people will continue to disagree on the best components of the code that achieve this balance, but it is critical to begin with pro-growth provisions like a lower statutory rate, full expensing, and transitioning to a territorial system.
A lower corporate rate is a must-have provision. The current rate of 35 percent (close to 40 when combined with state and local corporate rates), is the highest in the industrialized world and puts our businesses at a huge competitive disadvantage relative to our international rivals. A significant cut would create hundreds of thousands of jobs and encourage companies to remain on, or return to, U.S. soil. According to the Tax Foundation, a reduction to 25 percent would increase GDP by 2.3 percent, at a dynamic cost of $459 billion in tax revenue.
A lower corporate rate invites an additional challenge — parity between the rate that large corporations pay and the rate that smaller companies pay. Many pass-through businesses pay taxes using the individual tax schedule. Smaller companies paying the top marginal rate — currently 39.6 percent — could find themselves paying far higher taxes than big companies, proportionally speaking.
A solution could be found by creating a separate rate for pass-through entities that’s roughly on par with that of large corporations. Opponents of tax reform regularly misstate its impact on small business by ignoring the impact improvements in the corporate business climate have on pass-throughs. A separate rate for these entities could ameliorate this political posturing.
Beyond rate cuts, to maximize economic growth Congress should be certain to enact full expensing — or allowing businesses to immediately and completely write off the costs of new investments. The Tax Foundation estimates this policy alone could boost the economy by 4.2 percent and create more than 800,000 jobs.
Lastly, lawmakers must update the tax code by moving to a territorial tax system, rather than the current worldwide system that double taxes companies that do business outside the United States. An estimated $2.4 trillion in business income is sitting overseas — cash that could be a shot in the arm of the U.S. economy if our tax system allowed for it to be reinvested at home. The tax code must be reformed so that companies do not face taxation on both their domestic and international earnings, a practice that currently separates the U.S. from most of the world.
Keeping tabs on the cost of these provisions is critically important for a number of reasons. To maximize growth the plan should be permanent, but that means maintaining budget neutrality in order to conform with reconciliation rules. Getting there will require some additional tough choices.
If the code were to be scrubbed of all corporate credits and deductions not related to cost recovery, it would raise $704 billion over 10 years. Eliminating popular provisions for individuals, such as the deduction for state and local taxes and the home mortgage interest deduction, would increase revenues by almost $3.5 trillion, but could face steep political resistance.
An approach advocated by Speaker of the House Paul Ryan, R-Wis., and House Ways & Means Chair Kevin Brady, R-Texas, is to transform the corporate income tax to something more akin to a consumption tax. Doing so could raise approximately $1.2 trillion to finance rate cuts and other pro-growth provisions. However, the “border adjustment” component of this proposal — in which taxes are only applied only to products consumed on U.S. soil — has generated apprehension amongst a number of large and influential corporations, making its passage extremely challenging.
These challenges are not new; however, the opportunity for overcoming them is. Congress and President Trump ought to do everything they can to get it done.
This could be a once-in-a-generation opportunity to simplify the tax code, reduce the government’s burden on taxpayers, and truly unleash the country’s economic potential.
Brandon Arnold (@BrandonNTU) is a contributor to the Washington Examiner’s Beltway Confidential blog. He is the executive vice president at the National Taxpayers Union. Mattie Duppler (@MDuppler) serves as NTU’s Senior Fellow on Fiscal Policy.
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