Expiring Tax Cuts And The AMT Said To DriveTax Reform

by Mike Godfrey, Tax-News.com, Washington

21 February 2005

The spread of the Alternative Minimum Tax and the expiry of President Bush’s tax cuts present an ideal opportunity to bring about reform of the US tax system, although this may not mean that radical root and branch reform is inevitable, according to the 2005 Economic Report of the President.

"Although tax reform has been discussed for many years, it is a particularly pressing need at the current time," states the report, which was released last week.

While the report does not endorse any specific tax reform proposals, it notes that a switch to a consumption-based tax system such as a national sales tax or value added tax would simplify the system for business, boost income levels and facilitate saving.

“A consumption tax would be more neutral with respect to investment decisions since new investments would be immediately deductible (expensed)," it explains.

However, he report also observes that such a seismic shift in the tax system would have major drawbacks in terms of transitional costs, and would take both businesses and individuals some time to adjust to.

While President Bush stated during the 2004 election campaign that a consumption tax or flat tax was a reform option, the outgoing chief White House economic advisor Gregory Mankiw told reporters last week that the President has an open mind regarding alternatives to the current system, and stressed that the Economic Report was “not meant to lean one way or another”.

Nonetheless, the report suggests that tax reforms should seek to eliminate or refocus the Alternative Minimum Tax, which it is estimated will affect 20.5 million taxpayers by 2006 – up from 3.8 million in 2004 – whilst also taking into account the phasing out of temporary tax cuts passed in 2001 and 2003, which will raise the tax burden on millions of taxpayers.

"If these provisions are allowed to expire, the result will be substantial increases in taxes on taxpayers in all income groups, with the largest percentage increases being imposed on lower and middle-income households," the report notes.

Other options explored included simplification of the current system through the lowering of tax rates and a broadening of the tax base, along with the elimination of numerous deductions and credits currently contained in the tax code.

The elimination of double taxation of corporate income is also highlighted as an option.

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