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3 Tax Policy Tests for Congress in Recovery Package

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Senior Director of Federal Tax Policy

The economic recovery package Congress is drafting (also called “Build Back Better”) would raise revenue from wealthy individuals, large corporations, and those not paying the taxes they owe in order to help pay for investments to reduce child poverty, increase preschool and college opportunities, and improve families’ economic security. But in each of those three revenue areas, Congress faces a key test.

1. Will Congress change the rules that allow the wealthiest households to pay little or no individual income tax?

Millions of Americans have individual income taxes taken out of each paycheck. It’s our nation’s main tax, raising roughly half of federal revenue. Yet many extremely wealthy people — including billionaires Jeff Bezos and Elon Musk — pay little or no individual income tax, as a major ProPublica investigation this summer showed. That’s because their income consists mostly of capital gains on their stocks and other assets, and no tax is due on those gains until they are “realized,” usually when the assets are sold. And if they die without selling the assets, the taxes on these “unrealized” capital gains are simply erased.

This is grossly unfair given the tax code’s typical treatment of the far smaller unrealized capital gains that people with more modest incomes have on their stock. If they own any stock, it tends to be in retirement accounts, and strict rules ensure that when they retire or die, all of their unrealized capital gains are eventually taxed.

President Biden has proposed taxing people’s capital gains that have escaped taxation throughout their lifetimes when they die. Adopting this modest proposal, which includes special protections for family farms and businesses and personal residences, is the least Congress should do. Otherwise, the wealthiest people in this country will still be able to pass on massive fortunes to their heirs without ever paying our main tax on much of their lifetime income, which would be a major policy failure. Passing this minimal test should be a top priority.

2. Will Congress stem the tide of large multinationals shifting profits to overseas tax havens?

Proponents claimed the 2017 tax law would limit multinationals from shifting profits into tax havens, but it failed: multinationals held the same share of their income in major tax havens after the law’s enactment as they had previously. Because the 2017 law set the tax rate on foreign profits so far below domestic profits and included loopholes for multinationals to shift profits from high-tax countries to tax havens, multinationals continue to park massive amounts of profits in tax havens such as Bermuda, Switzerland, and Luxembourg, costing the Treasury roughly $100 billion a year as of 2017.

President Biden’s international tax proposal would reduce profit-shifting incentives by setting the minimum tax rate on foreign profits closer to the rate on U.S. profits and plugging holes in the minimum tax. It also would encourage other countries to enact similar minimum taxes by denying certain deductions to non-U.S. multinationals with U.S. operations if they are headquartered in countries that don’t impose minimum taxes.

Major corporations have launched a “massive lobbying blitz” to defeat the Biden plan, which they claim would harm average workers. But polls show strong public support for strengthening corporate taxes, including by reducing profit shifting. As a group of major unions, which have an obligation to reflect the interests of workers, highlighted in a letter to Congress backing the Biden plan:

A non-partisan public opinion poll released in June showed that more than 60 percent of respondents approved of every corporate tax increase presented to them, including 70 percent who supported a hypothetical proposal to “[r]aise the corporate tax rate on foreign profits from 11% to 28% to equal to the rate on domestic profits.” This means that 70 percent of respondents would go further than President Biden, who proposed a rate of 21 percent for offshore profits.

Congress should resist corporate pressure and reduce tax breaks for profit shifting.

3. Will Congress give the IRS the resources and information it needs to ensure that wealthy filers and businesses pay more of the taxes they owe?

To reduce the large gap between the taxes that are owed and the taxes that are actually paid, the President has proposed giving the IRS — which has been badly weakened by a decade of budget cuts — funding to rebuild its audit staff and upgrade its computer systems, and proposed strengthening information reporting requirements to help the IRS identify unreported income. The tax gap not only reduces revenue, but also can increase inequality, as a new Treasury Department report shows.

Increasing funding has gained bipartisan momentum, but improving information reporting is also critical, and it, too, has bipartisan support. Former Bush Treasury Secretary Henry Paulson and other former Treasury Secretaries have endorsed it, writing that:

We are convinced that better information-reporting requirements can be designed that will permit significant increases in revenue collection without imposing any burden at all on taxpayers and imposing no significant increase in regulatory burdens across the economy. Relying on financial institutions to relay some basic information about account holders is a sensible way forward.

So have a group of former IRS commissioners under both Republican and Democratic presidents, who wrote:

This information could assist taxpayers in filing accurate returns and help the IRS better focus collection efforts. Research shows that when the IRS has access to third-party reporting, compliance rates top 95 percent. Without third-party information reporting, compliance rates are below 50 percent. Reliable information is critical to an effective and fair tax system.

And current IRS Commissioner Charles Rettig recently wrote Senator Elizabeth Warren stating that:

Increased information reporting targets underreported income, which is the largest category of the tax gap. It does this task by making it more difficult to hide and underreport income. . . . [B]y improving the IRS’s ability to detect and rectify willful noncompliance, additional information reporting will ensure the tax ecosystem remains fair for the majority of taxpayers who are striving to meet their tax obligations.

Congress should stand with honest taxpayers and honest business owners and give the IRS the money and information it needs to enforce the nation’s tax laws.

Passing these three tests would be important tax policy wins in their own right. They would also generate needed revenue to reduce child poverty and improve college access, health coverage, and economic security for families across the country.

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