Download Chapter 13 - University at Albany

Tax Expenditures
Presented by
Todd R. Engwer
Author – Christopher Howard
Associate Professor of Government at
William & Mary College.
Author of The Hidden Welfare State: Tax
Expenditures and Social Policy in the
United States (Princeton University
Press,1997) & Other Journals
Ph.D. in Political Science – Massachusetts
Institute of Technology
Definition
A tax expenditure is a provision in a law
that usually encourages certain behavior
by individuals or corporations by deferring,
reducing, or eliminating their tax
obligation.
Basic Process
By law all revenue measures must
originate with congress
Senate finance committee
House means and Ways committee
Tax expenditures essentially sole
responsibility of Treasury Department and
Internal Revenue Service
Rule Process
Notice of proposed rule making in Federal
Register
Obtain input – public and representatives
in tax area – highly specialized field
Issue final regulations
Drafting regulated to Treasury/IRS
bureaucrats – generally Tax Attorneys
Final signoff by IRS Commissioner &
Secretary of Treasury
History
1974 Budget Act – formally defined tax
expenditures
Mandated publication of annual tax
expenditure budget
Initially applied to corporate & Individual
income taxes – subsequently expanded to
include estate and gift tax
Issues
Policy debates over tax expenditures have
largely been centered around personal
income tax
US Gov’t publishes two similar but not
identical tax expenditure lists
First by Treasury Department
Second Congressional Joint Committee on
Taxation
Relation to Key Tools
Coerciveness – measures the extent to which a
tool restricts individual or group behavior as
opposes to merely encouraging or discouraging
it
Tax expenditures appeal to many policy makers
because they appear to entail little coercion.
Tax expenditures entice individuals &
corporations to behave in socially desirable
ways but do not compel them to
Tools
Directness measures the extent to which the
entity authorizing or inaugurating a program
carries it out.
Tax expenditures are “highly indirect”
Primarily used to encourage individuals and
corporations to buy homes, equipment etc
Public financing & private delivery makes tax
expenditures a classic example of “third-party
government”
Directness continued
Detractor – gov’t officials can only make
an educated guess regarding what tax
expenditures will cost and who will receive
them
Decision to claim benefits rests with the
individual – contributes to the
uncontrollability
Third-party providers a key political
constituency
Earned Income Tax Credit
1975 temporary tax expenditure
Permanent in 1978
Provided incentive for unemployed to work
Received cash rebate regardless if tax
was owed or not
Shown to be effective increasing workers
wages and reducing poverty
Automaticity
Measures the extend to which a tool
utilizes an existing Administrative structure
to produce its effects rather than having to
create its own special administrative
apparatus
Tax expenditures highly automatic
Attractive to policymakers – aid can be
given quickly ex. Incentive checks
Visibility
1986 Tax reform act – Reagan Era
Eliminated interest deduction on consumer debt
Essentially lowered income tax rate w/out adding
to deficit
Repealed investment tax credit for business
1990 Budget Enforcement Act
New or expanded tax expenditures had to be
offset by tax increase or spending cut
Little effect – did not apply to existing measures
Variants
Tax expenditures not really a single tool
more like a family of tools
Policymakers create deductions,
exemptions or specials exclusions
To reduce tax liability
Lower tax rates through deferment on
capital gains
Can create tax credits
Highlights
Policymakers decide how to target the
program
Narrowly defined - more difficult to
determine eligibility
Longevity – business lobby for permanent
tax expenditures for predictability
Tax expenditures can be temporary then
converted to permanent
Tool Selection
More choice means more efficiency
Benefits delivered swiftly & cheaply
Tax expenditures can help with market
corrections
Reduces demand for direct tools – health
care
Social stigma reduced
Political ideology
Challenges
Tax expenditures are not as easy to
implement as politicians claim
Changes require tax code to updated
Tax expenditures is a direct conflict with
revenue mission of IRS
Force Treasury & IRS agents to use
discretion to determine intent of law and
how to implement into the tax code
Other Challenges
Congress & President
Multiple tax expenditures addressing so
many problems makes addressing a policy
issue in a unified manner difficult
Taxpayers challenges
Tax code complex often forces individuals
to seek professional services
Tax code can be interpreted differently
Compliance
US Gov’t uses mandatory withholding
Citizen assess tax expenditure eligibility
Unreported Income largest source of tax
evasion
IRS uses audits to assist with compliance
Job security for accountants and tax
attorneys
Costly for citizens to pay for tax service as
well as time factor
Equity
Horizontal equity – taxpayers with comparable
incomes have comparable tax liabilities
Often inequitable
Vertical equity – tax burden should be based on
ability to pay/progressively higher marginal tax
rate
Tax expenditures generally favor the more
affluent
Potential solution for parity would be to convert
tax deductions to tax credits
Overall Assessment
Efficiency – often takes years to translate
law into action
Effectiveness – often criticized for lack of
coordination with direct spending
programs/competing interest
Legitimacy – tax code creates a loss of
trust in gov’t – frustrated by bureaucracy
Causes citizens to look for ways to beat
the system
Potential Solutions
Strip tax code of all tax expenditures
Enact a moratorium on changes to tax
code
Standardize eligibility criteria
Clearly define/standardize definitions
Combine related tax expenditures into one
category
Increase standard deduction by replacing
tax expenditures
Final Thoughts
Overall it would be difficult to determine
the level of effectiveness due to scope of
tax expenditures
Despite the difficulty tax expenditures can
create some positive outcomes
Charitable giving
Hope tax Credit/Lifetime Learning credit
for college students