Silverstein founded (in 1959!) the Tax Management Portfolio series of practitioner guidebooks, which is why I got the notification, as I was the author for the passive loss rules volume in that series (for which he recruited me when I had just left the Joint Committee on Taxation and was starting my academic career at the University of Chicago). He also successfully cajoled me to write a few very short practitioner pieces for a tax practitioners’ real estate journal as the passive loss regs started coming out.
Each only took me a few hours to write, but their publication led to an amusing episode that I’ve always remembered. A former fellow tax associate at my pre-Joint Committee law firm, who had preceded me into academics, came across these pieces, at a point when my first academic writings had not yet appeared in print (and of course there was no SSRN yet). He evidently concluded that this must be how I was directing my writing efforts as a legal academic, which would have been horrifyingly naive and misguided, as the University of Chicago Law School would have rated their value towards my earning tenure at zero. I ran into this individual at a conference, and while, he was trying to be gracious, his excruciating politeness about the pieces, along with an involuntary smile that he couldn’t quite suppress, brought to mind a man talking to one whose pants have fallen down and doesn’t realize it. But I figured there was no need to tell him what I was actually doing from an academic standpoint; he’d find out soon enough. (Yes, we’re in an ego-driven and competitive profession, and he was certainly no worse than anyone else, including me.)
Anyway, back to Leonard Silverstein. While the 1986 Act was in process, lobbyists who had technical issues to raise with staff would talk to us at the JCT. He was very good, in the sense that he understood our perspective as people who wanted the provisions we were working on to make consistent sense internally and be workable. E.g., I recall his deftness in saying that his client had asked him to raise two issues, one of which lacked merit but he had to mention it before we moved on, and the second more substantial. He was right about their relative merits, and I understood how he was working me but in a way that I had to appreciate. (Plus, the issue he raised truly was meritorious, in absolute terms whether or not comparatively so to the rest of the landscape, as the provision at issue, relating to the disallowance of miscellaneous itemized deductions, was a bit sketchy to begin with, in that it could result in overmeasuring net income.)
I subsequently heard from someone else that he referred to a couple of us at JCT, with whom he was discussing these issues, as “the kids on the Hill,” which I found amusing – I was in my late 20s – but by no means offensive. There was something a bit peculiar about an eminent senior law firm partner in his mid-60s, no doubt accustomed to deferential treatment most of the time, having to plead his case before a couple of bright-eyed recent law school grads who were excited about being near the pulse of what was happening at that moment. We certainly met plenty of senior law firm partners who were clueless about the sorts of arguments we’d respect, had never been contradicted by anyone for several decades, and thought they give us orders as if we were grocery store clerks. But he seemed to me to have a bemused and tolerant, albeit perhaps slightly weary, sense about the peculiarity of the status reversal implicit in his having to plead with us, at his career stage, to agree with him.
I thus got to like Silverstein, while not forgetting that he had his job to do and I had mine. Maybe it was mutual, as I’m sure we bantered a bit about the merits of the issues that he raised, I think with some shared enjoyment. When he found out that I was leaving JCT, he asked me if I wanted to join his firm, and when I said I was going to U Chicago he brought up the Tax Management Portfolio, which paid me enough to be worth my while at the time.
I don’t recall seeing him in person after I left Washington in 1987, although while I was still in Chicago (through 1995), we discussed TMP follow-ups by phone. But I’ve always remembered him fondly, and he somehow conveyed to me a sense of being a substantial person even though we never discussed anything that wasn’t narrowly professional.
The article’s current working title is “The New Non-Territorial U.S. International Tax System.” Final length may approach 30,000 words, although I feel that it moves fast through the issues that it covers, rather than lingering. It covers a great deal of ground, in part by reason of its joining together (1) a general normative discussion of how to best think about the main set of international income tax policy issues, and (2) a moderately detailed assessment of 3 key international provisions in the 2017 tax act: the BEAT, GILTI, and FDII.
Combining both of these parts in a single piece makes it a rather long haul. But I think this is the right design for the paper, as the two are interrelated. It’s hard to assess the new rules without a normative framework. And I think it’s worth my while to update the framework that I’ve set forth in previous work (such as my international tax book) given the changes since then in the legal environment.
I’ll be presenting the piece in Vienna and Oxford in June, Ann Arbor in October, and Copenhagen plus presumably NTA (in New Orleans) in November. My current publishing plan is to put it in Tax Notes, for rapid turnaround and broad professional readership. Given the piece’s length, it probably would need to appear in successive weeks as part 1 and part 2. Maybe, with luck, I can shoot for September publication. I’d then be able to post the article on SSRN once a few weeks have psssed (Tax Notes has rules about this).
In principle I suppose I should incorporate the ideas in the piece into a second edition of my international tax book, but I’m not sure if this will happen, as I might prefer to spend the time and effort working instead on my literature and high-end inequality book(s).
The book I’m reading on Kindle is Margery Sharp’s Something Light. Just discovered her after a mention in the Sunday NYT Book Review. Very good mid-century English comic writer; she’s been compared to Barbara Pym and Elizabeth Taylor (the novelist, not the actress), but also has what’s almost a touch of Wodehousean absurdity.
Eventually the babies (as we still call them at age 6) settle down, but it still makes reading a bit more challenging.
The research sheds light on the design question of how high or low small-business VAT exemptions should generally be. In addition, micro-entrepreneurs’ behavior (and expressed attitudes or knowledge) around elective VAT participation may also be more generally illuminating, both about VATs and, more generally, this sector of the economy.
1. My priors on high vs. low mandatory VAT registration thresholds
In practice, VAT small-business mandatory registration thresholds vary quite significantly. I gather that there is no small business exemption in Sweden – if you have $1 of relevant sales, you are supposed to file. In Canada, as noted above, the threshold currently stands at about $23,000 in US dollars, and is trending down annually, since the nominal amount hasn’t been changed in more than 20 years and isn’t indexed to inflation. In the UK, by contrast, the threshold for mandatory VAT participation exceeds $100,000 in US dollars.
While I haven’t previously thought much about whether VAT mandatory registration thresholds should be low or high, I come equipped with attitudes (which I am of course quite willing to reexamine) suggesting that one would want to aim towards the low end.
Now admittedly, in favor of a relative high registration level are the points that:
(a) The social value of accurately measuring and collecting each dollar of correctly determined tax revenue is generally much less than a dollar. A payment of tax is a transfer, so the dollar is just moving from one dollar to another. Getting it right is obviously worth something – presumably, in efficiency and/or distributional terms – or else we’d just have a lump sum tax of some kind, but the marginal value of correctness is presumably just some fraction of the full dollar. This of course is standard Kaplow et al.
(b) Small businesses are likely to have higher marginal compliance costs per dollar of revenue collected than big ones; also the marginal administrative costs of auditing them may be relatively high. So one might have to climb up the scale a bit before it’s worth it.
But there are also a bunch of reasons or arguments for wanting to aim low. For example:
(a) VAT exemption amounts generally function as a notch or a cliff – unlike, say, income tax exemption amounts. E.g., if you’re one dollar under the VAT registration ceiling, you don’t have to collect any VAT from your customers. But once you hit the ceiling you have to collect it all, from the first dollar onwards. One of the students in the class found this great article about problems that this has been causing in the UK. Setting the threshold high tends to result in a bigger notch, and under the Sweden approach there would be no notch. The notch literature suggests that they’re generally bad as a design matter, unless the notch occurs at a low point in a multimodal distribution. Not clear how or why one would find such a thing in small business size, however.
(b) VAT exemptions can in effect create a tax preference for small business, inefficiently steering consumer demand towards them and inducing them to stay under the threshold. If you want a comprehensive and relatively neutral tax base, significant exemption thresholds will be at least a matter of regret.
(c) Consider again the point that small businesses are associated with higher marginal compliance and administrative costs. I noted above the possible conclusion that this may support exempting them from the tax. But suppose we look at it the other way around. Small businesses generate negative externalities if they’re exempted. If it’s better to have a comprehensive system with not just tax payments but information reporting that extends as broadly as possible, then one may think of the small businesses as imposing disproportionate costs on the system, rather than the system as imposing disproportionate costs on them. Or one may adopt a Coasean joint causation perspective, a la the railway and the hay fields.
Again, my hunch from all this tended to come down on the side of setting thresholds low rather than high. But on the other hand there’s a paper by Michael Keen and Jack Mintz, modeling the broader social welfare effects (but in light, I suspect, of the authors’ considerable empirical knowledge), that suggests it may often be optimal to set the threshold relatively high. I tend to have a very high regard for those two individuals’ work, so that does move the needle for me a bit.
2. When do or should small suppliers voluntarily register to participate in the VAT?
Again, Canada allows small suppliers voluntarily to register for VAT participation, and the paper’s main contribution is exploring when and (in their own stated terms) why they choose to do this or not.
But for starters, what one should think of voluntary registration? We tend to think of choice as good, especially where the state benefits from more people participating (so there presumably is no downside if they voluntarily opt in), unless one is especially concerned about the cost of having to choose. With respect to tax elections in particular, however, it’s often the case that (i) electivity is good if people are using it mainly to lower their compliance and planning costs, but (ii) it’s likely to be bad if they’re using it to lower their tax liabilities, since the value of the $$ to the government is an externality from their standpoint and it’s unclear why this filter would relate closely to whom we want to bear higher vs. lower taxes.
But anyway, when should we expect people to opt into the Canadian VAT? Financially, it tends to have both an upside and a downside. The upside is that one need not charge the VAT on sales directly to consumers. The downside is that VAT-registered businesses that sell directly to you will still charge the VAT, but you won’t get it refunded. This is especially disadvantageous if you then sell to another VAT-registered business, in which case, the ultimate downstream VAT collected ends up being higher than if all were registered, as there is unreimbursed cascading for the liability charged on your mid-stream purchase.
The paper’s empirical findings are roughly consistent with this. It finds no significant effect on the upstream side (i.e., whether a given farmer’s market micro-entrepreneur purchased inputs from VAT-registered businesses), but it does find significant effects on the downstream side (i.e., whether one sells directly to consumers, discouraging registration; or to other VAT-registered businesses, potentially encouraging it).
There is also some indication that informal considerations may matter. E.g., registering or not might involve either signaling or communicating type, although the alternative theories that might apply here are numerous. These might also feed back into influencing the normative analysis.
In the first one, available here, I discuss the differences between high-end and low-end inequality.
In the second, available here, I discuss high-end inequality and luck.
In the third, available here, I discuss the extent to which U.S. efforts to address income inequality have succeeded (or not).
In common parlance there are these 2 things, “growth” and “inequality,” that often are discussed without the speaker being very precise about what exactly either of them means.
One underlying datum for the inquiry is that there have been at least five particular moments in U.S. fiscal history when the enactment of a national consumption tax has been on the agenda poliitically, and seemingly had some chance of happening, but didn’t. So among the questions posed is whether these were unique events, or instead had common causation, perhaps even sounding in “American exceptionalism.” The moments were as follows:
1) Early 1920s – With post-World War I fiscal retrenchment taking place amid a switch from the Wilson Administration to Republican leadership, major tax changes were being considered. The great Treasury economist T.S. Adams, known to tax folks today mainly by reason of the Graetz-O-Hear article that described his central role in creating the international tax credit, also more or less invented the VAT in 1921, and tried unsuccesfully to get it adopted by Congress. Business ambivalance and opposition to such an instrument, which was not as yet well understood or in place anywhere, apparently played a role in this outcome. So did the fact that the income tax had helped finance World War I and that the Republicans were not aiming to go back to pre-World War I finance. What happened instead was mainly just a lowering of income tax rates, which had risen to very high levels in order to help finance World War I.
2) 1940s – The Roosvelt Administration publicly considered the possible adoption of a national retail sales tax, in order to help finance World War I. States’ opposition, reflecting that many of them had recently adopted their own retail sales taxes, was one of the factors behind the decision to rely instead on expanding the income tax.
3) 1970s – The Nixon Administration publicly floated the idea of replacing residential school property taxes with a national VAT to fund public education. The 1976 Blueprints tax reform study also discussed the adoption of a national consumption tax, and Ways & Means chair Ullman notoriously lost his 1980 reelection bid after advocating the national adoption of a VAT. The late 1970s tax revolt and election of Reagan appears to have shut this down. Tax reform in 1986 was really focused on the income tax, although the 1984 Treasury “bluebook” report did discuss consumption taxation as an alternative option.
4) 1990s and early 2000s – By this decade, national consumption taxation had become a standard feature of tax reform discussion, such as in the 1995 Nunn-Domenici plan, and the report of President Bush II’s 2005 Presidential Advisory Panel on Tax Reform.
5) 2016 and 2017 – Ted Cruz’s “business flat tax” proposal in his presidential campaign would have been a VAT by another name, and then the DBCFT, as I discuss here, would have replaced corporate income taxation with a VAT plus wage deduction.
A further important point to reflect on here is that, at the global level, countries with VATs tend to have less progressive tax systems than the US, but more progressive fiscal systems. This reflects that VATs often help fund larger-scale social welfare benefits. But the correlation raises underlying causal questions, such as which caused the other insofar as there wasn’t independent causation for each. One might also note that, at the state level in the US, states that rely heavily on sales rather than income taxes seemingly do not tend to have more progressive fiscal systems. But this may partly reflect both (a) using sales taxes in lieu of income taxes, rather than both as distinct from just the latter, and (b) the lesser market power underlying states’ sales taxes than those of many countries, given the ease of moving between states or even just avoiding retail sales taxes via cross-border / online / mail order shopping.
What might be some of the leading theories regarding why this never happened? (The word “this,” of course, embraces a range of very different options – e.g., VAT as add-on and VAT as income tax replacement.) An initial list, pending the fruits of Mehrotra’s research, might include at least the following:
1) General VAT enactment obstacles – There’s no need for American exceptionalism to support the observation that voters around the world generally do not leap up and cheer when a new and potentially capacious tax instrument is proposed. The two main stimuli that have led to VAT adoption in other countries are: (a) replacement, as per the VAT’s introduction in continental Europe in the 1950s as an improvement on prior gross receipts taxes that imposed cascading tax burdens on interbusiness sales, and (b) outside pressure, as in cases where countries were pushed by the EU to adopt VATs as conditions of membership, or by the IMF to adopt them as conditions of receiving aid. Another example of the same phenomenon is New Zealand’s adoption of a VAT in the face of significant budgetary pressure.
In the US, (a) has been attempted but perhaps the taxes targeted for replacement haven’t been unpopular enough, while (b) hasn’t happened to us at least yet. (Future fiscal crisis, or at least entitlements funding crisis, anyone?)
2) American exceptionalism – When one is speaking about American exceptionalism, the leading suspects include (a) slavery and the indelible sin of ongoing racism, (b) the importance of the frontier, among others. Each of these could arguably play a role here. (A) helps explain the lack of a broader social welfare system that would strengthen the need for VAT financing, given our heterogeneity’s effect on voter interest in helping the poor. (B) helps explain anti-government sentiment that might heighten opposition to higher taxes. But Mehrotra’s research may help to illuminate any connections.
3) The Larry Summers joke – Someone please ask Larry Summers: Did he actually make the famous VAT joke? I’m told that a mention of this first appeared in the NYT in the 1980s, but apparently even this reference isn’t a direct quote but rather refers to the report that he said it.
The joke, in any event, goes something like this: The U.S. doesn’t have a VAT because conservatives view it as a money machine while liberals view it as a tax on the poor. But if only liberals came to realize that it is a money machine, and conservatives that ti is a tax on the poor, then surely we would get it immediately.
As I’ve noted elsewhere, the joke is “deliberately paradoxical. Why should each side be so fixated on the bad outcome, rather than the good one, as judged from its normative perspective? The underlying empirical claim would therefore appear to be nonsensical, if not for the fact that it also appears to be true.” With regard to current non-adoption of a VAT, including as a hidden component of corporate income tax replacement via a business flat tax or the DBCFT, I’ve suggested the relevance of risk aversion. From the standpoint of both Democrats and Republicans, a fiscal system with a VAT could be BETTER by their lights than the existing one if they get to control the other adjustments to taxes and outlays, but WORSE by their lights if the other side gets to do so. This creates a bit of anxiety and uneasiness about adding this instrument to the fiscal system even if one is currently in control.
4) Path dependence – Mehrotra will also, in the project, be exploring the idea of critical moments at which, perhaps, something just because it happens (or more specifically, for reasons idiosyncratic to that era), but then it has broader ramifications down the road because it has set the path. The QWERTY keyboard is of course the classic path dependence story. Assuming the literature is right, it was initially adopted to slow typists so they wouldn’t jam early machines, but is not suboptimal for modern keyboards yet locked in. As applied to the VAT, however, one question to keep in mind is whether, or to what extent, recurrence of the national consumption tax issue implies fresh causation each time – with or whether out common explanations, e.g., from something in the “American exceptionalism” area.
I don’t rule out possible future U.S. adoption of a VAT, although I consider it neither imminent nor especially likely. Or, to put it differently, if there are 100 most-likely U.S. national futures, let’s say in parallel universes any of which might prove to be ours, some of them surely feature a national consumption tax, with or without the name, although I’m not here offering to bet on just how many or how few. (That would be a subjectivist, rather than a frequentist, measure anyway.) Multiple pathways to a national consumption tax might include (1) conservative control and it replaces a lot of income taxation without Graetz-style adjustments to retain progressivity, (2) liberal control and it funds new programs such as free college tuition or Medicare For All, and (3) fiscal crisis where it’s deployed to “save Social Security and Medicare.”
Of particular interest to many of us may be (1) Part LL, starting at page 47, establishing a Charitable Gifts Trust Fund, and (2) Part MM, starting at page 56, which establishes an Employer Compensation Expense Program.
The Charitable Gifts Trust Fund creates two distinct accounts, one called the “health charitable account” and the other called the “elementary and secondary education charitable account.” The moneys contributed to each (or otherwise accruing to it) are held separately from each other and everything else under the state’s purview, under the joint custody of the state comptroller and the commissioner of taxation and finance. These moneys generally are required to be expended only for specified services that relate to the purposes indicated by the accounts’ names.
Starting in 2019, by making a timely contribution to one of these accounts, one can qualify to receive an 85 percent tax credit against New York State income tax liability with respect to the amount contributed.
I haven’t yet had a chance to do any serious analysis of this provision – pertaining either to how it works, or to its effects on federal income tax liability. But suppose one makes a $100 contribution to one of the funds, thereby reducing one’s New York State income tax liability by $85. Assuming a favorable federal income tax analysis, this yields the contributor a federal charitable deduction in the amount of $100. Depending on the relevant marginal rate, this could potentially reduce one’s federal income tax liability by more than the $15 difference between $100 and $115.
For this result to follow, the federal income tax measure of the charitable contribution would have to be $100, not $15. But there are both administrative and case law precedents in support of this result. (And note that, when a charitable contribution is deductible under New York State law, one generally does not have to reduce the federal value of the contribution by the state tax saving.) The use of the funds would also need to have economic substance, compared to simply paying state income taxes. But if you read the new law carefully, you will see the aspects of such substance that a contribution to either of the funds has – in particular, given the degree of pre-commitment of the funds. Indeed the NY State legislature might receive useful information from contributions to the two programs regarding donors’ substantive policy preferences.
Under Part MM, the Employer Compensation Expense Program, employers that are required to withhold income taxes from their employees’ wages can elect to pay a special payroll tax that equals a specified percentage of the payroll amounts paid to covered employees. The percentage is 1.5% in 2019, 3% in 2021, and 5% starting in 2021. Covered employees get state tax credits for their shares of the special payroll tax thus paid by the employer.
With the caution that my understanding of the provision remains very preliminary, the effect may be as follows. Suppose that I am a covered employee of an electing employer that is taxed at the 21 percent federal corporate rate, and that in 2019 the employer paid me $1,000 of wages, on which it paid a $15 special payroll tax. My New York State income tax liability declines by $15.
Deducting the $15 payroll tax as a business expense would reduce the employer’s federal income tax liability by $3.15 (at the 21% rate). Meanwhile, my reduced state income tax liability has no adverse federal income tax consequences for me, assuming that the transaction is respected for federal income tax purposes, if the extra $15 would havbe been nondeductible anyway. Also, the employer’s current year tax flows would not be adversely affected by keeping current on the new payroll tax, insofar as it comparably reduced state income tax withholding on its employees’ behalf, to reflect the expected reduction in their ultimate state income tax liabilities.
Let’s assume that the federal income tax results here are indeed as stated. Why would the employer make the election, given that it’s still worse-off after tax under the stated facts? The main point here is that, as a general matter, employees may be willing to accept less pretax compensation when they are paid in a more tax-favorable, rather than a less tax-favorable manner. For example, suppose that my employer offered me a choice between (a) a higher salary but no employer-provided health insurance, and (b) a lower salary but with federally excludable health insurance benefits. It would be unsurprising if I agreed to (b) in lieu of (a), in part or even wholly by reason of the federal income tax savings. This is par for the course.
More broadly, it’s long-accepted Tax Planning 101 that parties engaged in arm’s length transactions with each other will often have the flexibility to determine which of them will bear particular tax consequences, either favorable or unfavorable. Thus, in my Tax I class, I have long emphasized what I call “collective tax minimization” – the fact that, so long as the transaction parties can duly adjust multiple transaction terms, they may mutually benefit from their structuring their agreements in such a way as to keep their collective tax liability as low as possible.
Thus, consider employee stock options. As a practical matter, they often can be structured to be either (1) currently deductible by the employer and includable by the employee, or (2) currently neither deductible nor includable. (To simplify, let’s ignore here questions of future deductibility and includability, and of the possible effect on future employee capital gains realizations.) All else equal, (1) is better for the employer, and (2) is better for the employee. But if they can adjust the gross (i.e., pretax) value of the option grant to reflect whether they are choosing (1) or (2), then their interests may align.
For example, suppose that the employer faces the corporate rate of 21%, while the employee faces the top individual rate of 37%. Then option (2) is collectively better for the two parties combined than option (1). But, for each $100 of stock options granted, (2) is $21 worse than (1) for the employer (all else equal), albeit $37 better for the employee.
Not to worry, however – both are better off under (2) than they would have been under (1) so long as the option grant is between $21 and $37 smaller (per $100 of options that would otherwise have been granted) under (2) than it would have been had they chosen (1).
Obviously further legal analysis is required before one can definitively set forth the federal income tax consequences of employers’ electing to participate in the Employer Compensation Expense Program. And participation in the Program may not be the easiest thing in the world to establish and explain adequately to employees. But this provision, like that pertaining to the Charitable Gifts Trust Fund, has the potential to mitigate the adverse consequences to New York State residents of the 2017 tax act’s largely repealing state and local income tax deductions. And it does so within the 2017 act’s deliberate contours, which were based on the view that employer business expenses, like individuals’ charitable contributions, should generally be treated more favorably than individuals’ payments of state income tax liability. So both provisions can reasonably be viewed as wholly consistent with the intent behind the 2017 tax act.