the national interest

The Republican Plan Is the Opposite of Tax Reform

House Republicans celebrate the passage of tax reform.

The Senate tax-cut bill contains, among other obnoxious features, a special tax break for owners of private planes. There is a federal excise tax on private travel on the books, but the new tax would exempt “storage, maintenance, and fueling, and those related to its operation, such as the hiring and training of pilots and crew, as well as administrative services such as scheduling, flight planning, weather forecasting, obtaining insurance, and establishing and complying with safety standards,” among other things. Rather than treat these costs as consumption, the Senate Republicans are exempting them as necessities of life. What are these people supposed to do — fly commercial, like animals?

The tax break for private planes is the sort of provision that is usually held up as a case for what tax reform is needed to eliminate. In this case, it is being created by tax reform. That is one clue that the “tax reform” plan being drawn up in Congress is nothing of the sort.

The goal of a tax-reform plan, as the term has been historically understood, has been to minimize political interference in the tax code. The tax code might charge a rich person a higher rate than a poor person, but it doesn’t want to charge a butcher who earns $50,000 more than a baker who earns $50,000 just because the baker did a better job lobbying Congress.

There are legitimate questions about how to define “income.” Traditionally, if you give money to charity, it’s assumed that money is not part of your income, since you can’t consume it. The same assumption has applied to money paid to state and local government in taxes. Republicans want to make at least some of that money taxable. Conveniently, that means states with higher property and income taxes — which happen to be blue states — would get hit by this tax change.

The most overt use of pseudo-reform to inflict punishment on blue America is a combination of punitive assaults on universities, which have grown increasingly hostile to the Republican Party over the last generation as the GOP has embraced anti-intellectualism. Both chambers would tax university endowments — an amazing policy choice, given that Republicans generally oppose taxing other forms of concentrated wealth. Why should the assets of a nonprofit educational institution be treated as income? It’s hard to think of a reason other than the fact that Republicans don’t like those institutions.

Even more absurd is a provision in the House tax cut to treat graduate students’ subsidized tuition as income. A graduate student who teaches and conducts research full-time for a university, and who currently gets free tuition, would be taxed on the full value of that tuition as if it were a cash salary. So, for instance, a graduate student who earns $30,00 in money, but gets $50,000 worth of tuition reimbursed for his work, would be taxed as if he earned $80,000.

For constituents Republicans wish to reward rather than punish, the tax bill’s assumptions grow outlandishly generous. They would open up a massive loophole for business owners by creating a 25 percent tax rate for “pass-through” businesses — that is, businesses whose profits are taxed as personal income of their owners. Trump’s business would be taxed this way. Since the Republican plan would leave individual income tax rates at least 10 percentage points higher than the pass-through rate, it would create enormous incentives for gaming. Rich people would figure out ways to categorize their income as a business they own. “The proposed special rate for pass-throughs, a key feature of both bills, has the potential to become the single greatest inducement to tax arbitrage ever enacted by a single Congress,” writes tax professor Daniel Shaviro.

Tax arbitrage means a business deal that exists solely to take advantage of favorable tax law. It’s use of money that makes no economic sense of its own. Shaviro has been quickly devising simple tax-arbitrage schemes that the Republicans’ bill would open up. His simplest example would exploit the bill’s proposal to allow immediate expensing of investments combined with a rate cut that would take effect a year later. “Suppose a company has the opportunity to spend $100 in 2018, in order to earn $90 in 2019,” he suggests. “So it faces a $10 loss before tax. But if it can expense the outlay at a 35 percent rate, and include the receipt at a 20 percent rate, then after-tax it’s out only $65 in 2018, and retains $72 in 2019. Voila, profitable after-tax investment.”

A well-designed tax reform would take multiple times as long to write as the Republicans are allotting themselves. The Tax Reform Act of 1986 began two years earlier. The Republicans are rushing their plan through Congress in weeks, in part to avoid the potential loss of a Senate vote in Alabama, and in part because they understand that extended public debate and scrutiny of their already-unpopular plan would only subject them to more public backlash.

In such a compressed period of time, they couldn’t avoid opening up enormous opportunities for gaming and arbitrage even if they wanted to. And there’s little reason to believe they want to, with their plan essentially having been created by and for the business lobby. The tax code is imperfect now. Once the Republicans get through with it, it will be in desperate need of reform.

The Republican Plan Is the Opposite of Tax Reform