There has been talk, and some hope, that the current financial crisis might be the perfect storm for tax reform, allowing the Obama administration to push through significant policy changes.
While hope is good, it may be too much to expect something this year, according to Michael J. Desmond, tax partner at the New York office of McKee Nelson LLP and former tax legislative counsel in the Treasury.
“That’s one train of thought,” he said. “But as the current stimulus bill moves its way through Congress, the sentiment is that the economic crisis will put talk of permanent fundamental tax reform off for another year.”
That’s not to say that more tax legislation is on hold, he noted. “There are some very important things that need to be addressed,” he said. “In addition to another one-year patch for the alternative minimum tax, it will be necessary to focus on estate tax in the months ahead.
“The estate tax exemption amount is $3.5 million this year, next year it is fully phased out, then in 2011 there’s a million-dollar exemption,” he added. “There’s a populist position for fixing that point of tax law. Nobody believes that there will be a full repeal for one year, and then go back to a $1 million exemption the way it was before 2003. The options are you can kick the can down the road for another year – have this year’s exemption extended – or a permanent exemption of $3.5 million or some other amount. It would avoid the train wreck scenario of complete repeal followed by reinstatement.”
Moreover, under current law, estate tax repeal in 2010 will bring with it a repeal of the step-up in basis rules, followed by a reinstatement of them a year later.
“On a technical level, the mind-numbing complexity of that springing back to life in 2011 just couldn’t happen,” said Desmond. “Even if you’re not subject to the estate tax, it will still affect you.”
Corporate tax rate is another area that will need to be addressed, according to Desmond. “The U.S. tax rate has remained the same for corporations since it was lowered as part of the 1986 act,” he said. “But for the last 26 years it’s stayed at 35 percent while all of our OECD [Organization for Economic Cooperation and Development] competitors have reduced their corporate tax rates over that time. We went from one of the lowest rates among developed countries to the second highest rate after Japan.
“The point is that U.S. multinationals are at an increasing disadvantage,” noted Desmond. “Rangel [chairman of the House Ways and Means Committee] has introduced legislation that would lower the rate to 30.5 percent but has since indicated it could be lowered even further to a 28 percent rate.”
Other areas needing action are the expiring Bush tax cuts from 2001 and 2003 legislation, Desmond observed.
“The most significant is lowering of the capital gains and dividend rates to 15 percent,” he said. “That’s the one people point to that needs to be addressed. During the campaign President Obama indicated a desire to raise the rate for some taxpayers from 15 to 20 percent, while more recently he has said it might not be the right time given the economic condition we’re in, but current law will expire and something needs to be done long term.”
Desmond’s prognosis is that we might see temporary measures taken but fundamental reform will be pushed off until the economic situation improves.
“Obama doesn’t have fundamental tax reform on his agenda yet,” he said. “There are a lot of targeted and discrete ideas, but leadership from the administration will be critical in getting traction on long-term tax reform.”
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