The Tax Reform Act of 1986 was a landmark piece of bipartisan legislation, preceded by years of groundwork by Treasury Department experts and carefully crafted to permanently lower tax rates while not putting a significant dent in tax revenue. Yet a year after its passage, Congress was already tweaking the tax code. In 1990 lawmakers did away with one of the tax reform law’s signature accomplishments, the top income tax rate of 28% (it was raised to 31%). They have been assiduously adding complications to the tax code ever since.
The Tax Cuts and Jobs Act of 2017 has been billed as the biggest rewrite of the tax code since 1986. But if it is enacted this week as expected, it will be entirely along party lines. The legislation is projected to put a major dent in tax revenue — a dent that would be even bigger if so many of its provisions weren’t set to expire in a few years. And it was assembled in rushed, at times haphazard, fashion. As a group of prominent tax scholars argued in an assessment released Monday:
The legislation is … likely to cost more than the current estimates of over $1 trillion, to advantage the well-advised (and their advisors) in ways that are both deliberate and inadvertent, and to face legal roadblocks like WTO non-compliance that could undermine key components of the legislation. Finally, the bill includes glitches that could lead to haphazard and unexpected results that could arbitrarily favor or penalize taxpayers.
So it’s a good bet that Congress will be revisiting the tax code soon! At least, one would hope so.
Still, there are provisions of the tax bill that emerged from conference committee on Friday that strike me as keepers: positive, important changes that, even if imperfectly executed this time around (and in some cases due to expire in 2026), would be good to keep around in some form.
A lower corporate tax rate: While lowering corporate taxes is extremely unpopular with voters, tax experts in both parties agree that the current 35% rate is counterproductively high. Add in average state and local taxes, and the U.S. has the highest statutory corporate rate in the developed world, which gives corporations a big incentive to structure their operations in ways that avoid U.S. taxes.
President Barack Obama proposed cutting the top corporate rate to 28% in 2012, along with shrinking corporate deductions and loopholes to make up for the revenue loss. The current tax bill shrinks some deductions and loopholes, too, but not nearly enough to make up for the likely revenue loss from cutting the rate to 21% from 35%. So 21% shouldn’t be sacred, and Congress could surely do more on the deduction-and-loophole front. But going back to 35% would be a bad idea.
Restrictions on business interest deductions: Corporations can deduct interest payments from their taxes but not dividends. This means that corporations financed largely with debt effectively don’t pay corporate income taxes. This is bad for the economy because, as former mutual fund industry executive and Brookings Institution senior fellow Robert C. Pozen explained a few years ago:
To begin with, this bias strongly encourages financial institutions and other firms to maximize their leverage — their debt relative to their equity. High leverage increases the risk of bankruptcy and magnifies any financial crisis because a business under pressure has little equity cushion to absorb losses.