Skip to content

With True Tax Reform, Details Matter | Commentary

In a Washington that has been defined for years by die-hard partisanship and stark policy differences, conceptual support for a sweeping reform of our tax code has been a rare point of agreement. And this is with good reason. Drastic reforms are necessary to ensure American growth in the years ahead — especially since the U.S. corporate tax system is among the worst in the world.

Tax reform is seldom a headline-grabbing issue, but as our economy struggles, meaningful reform should command the attention of elected officials. Tax reform done properly will compel American businesses, from mom-and-pop stores to multinational corporations, to invest, expand and hire new employees. Tax reform done properly will enable our firms to compete worldwide.

Unfortunately, this conceptual support has proved exceedingly difficult to translate into real policy results. And perhaps nowhere has the disparity between conceptual agreement and practical progress been more evident than in the Senate Finance Committee’s effort to formally launch reform efforts by starting from a “clean slate.” The efforts demonstrate that while the concepts at the heart of reform may be simple, the details surrounding those concepts are anything but.

Two respected leaders of the Senate Finance Committee, Sens. Orrin G. Hatch, R-Utah, and Max Baucus, D-Mont., are spearheading the effort to modernize the U.S. tax system. They are supported by their senatorial colleagues from both parties and important members in the House of Representatives. But I have an urgent caution: Their standard for defining tax preferences could badly damage American business.

Hatch and Baucus have adopted the Treasury Department’s definition of “tax expenditures” as their standard for identifying tax preferences. So far as business is concerned, the Treasury’s definitions are 50 years out of date. Over the past half-century, tax systems around the world have radically changed. Outside the United States, the corporate income tax is no longer the primary vehicle for collecting revenue from business firms. Yet the Treasury’s list of tax expenditures pegs off the corporate tax of yesteryear. The trouble starts there and continues.

Nearly all advanced countries, except the United States, have embraced the territorial system of taxing income earned by a multinational corporation outside the home country. But some officials in the executive branch want to move even further in the wrong direction by ending tax deferral for foreign subsidiaries of U.S.-based multinational companies. Much of this anti-tax-reform fever is created by the Treasury’s misleading tax expenditure claim that ending deferral would raise $220 billion over five years (2014-2018). If Congress followed this path, the money would never materialize, but many firms would rush to relocate their corporate headquarters almost anyplace but American cities. Toronto, London, Frankfurt, Singapore and Shanghai would all beckon, and so would many others.

In the energy sector, exploration and development costs are labeled a tax expenditure, but tax expenditures are not identified in the Treasury’s tables for expensing other forms of research-and-development costs. Energy exploration is no different than other R&D: It often fails, but when it succeeds it brings tremendous value to the entire economy. It is not a tax preference.

Forcing American businesses to defend all tax expenditures from the pejorative label of “tax preference” is a mistake. It places an undue burden on America’s job creators. Investments can and should be quickly expensed to ensure that the time value of money isn’t lost. Productive investment should be encouraged, not discouraged, by tax reform in the midst of America’s slow and sputtering recovery.

Hatch and Baucus, along with Treasury officials and other leaders in Washington, need to reverse the way they think about business tax preferences. True business tax reform will spark the economy and create jobs. Increasing the corporate tax burden on American businesses will only discourage investment, reduce government revenue and stifle job creation. America desperately needs tax reform, but it must be done right.

Gary Clyde Hufbauer is the Reginald Jones senior fellow of the Peterson Institute for International Economics.