Monday, December 3, 2018

Excavating Layers of the Tax Cuts and Jobs Act of 2017

"The 2017 Tax Act, sometimes called the Tax Cuts & Jobs Act, has been heralded by some as historic reform and by others as Armageddon. This Collection analyzes the Act, exploring the process by which it was passed, the values that undergird its policies, and how specific provisions will affect the structure of the U.S. and global economy moving forward." Thus begins a five-paper "Forum: Reflections on the 2017 Tax Act" from the Yale Law Journal (dated October 25, 2018)

Michael J. Graetz writes the "Foreword—The 2017 Tax Cuts: How Polarized Politics Produced Precarious Policy." He touches on a number of the themes mentioned in the two papers by Joel Slemrod and Alan Auerbach in the"Symposium on the Tax Cuts and Jobs Act" that appeared in the Fall 2018 issue of the Journal of Economic Perspectives: yes, the US corporate taxation needed both lower rates and more sensible treatment of multinational companies, but in many ways the new tax bill created a muddle--and a muddle that will lead to substantially higher budget deficits. Here's a flavor of Graetz (footnotes omitted throughout): 

"The Democrats’ complaints about the law’s reduction in the corporate tax rate from 35% to 21% ring hollow. Democrats themselves had long realized that the U.S.’s exceptionally high corporate tax rate in today’s global economy—with highly mobile capital and intellectual property income—invited both U.S. and foreign multinational companies to locate their deductions, especially for interest and royalties, in the United States, and to locate their income in low- or zero-tax countries. This is obviously not a recipe for economic success. Both before and after the legislation, Democrats urged a corporate tax rate of 25% to 28%; meanwhile, Donald Trump asked for a 15% rate.So, even if Democrats had been involved in the legislative process, the 21% rate that we ended up with would be in the realm of a reasonable compromise. ... [A] significantly lower corporate rate has been long overdue, and raising it would be a mistake. If Democrats are unhappy with the distributional consequence that a corporate tax cut will benefit high-income shareholders, the appropriate remedy––given the mobility of business capital, businesses’ ability to shift mobile intellectual property and financial income to low-tax jurisdictions, and the challenges of intercompany transfer pricing––is to increase taxes at the shareholder level, not to increase corporate tax rates. ...
Congress’s greatest challenge in crafting this tax legislation was figuring out what to do about the international tax rules. ... Congress confronted daunting challenges when deciding what rules would replace our failed foreign-tax-credit-with-deferral regime. There were essentially two options: (1) strengthen the source-base taxation of U.S. business activities and allow foreign business earnings of U.S. multinationals to go untaxed; or (2) tax the worldwide business income of U.S. multinationals on a current basis when earned with a credit for all or part of the foreign income taxes imposed on that income. Faced with the choice between these two very different regimes for taxing the foreign income of the U.S. multinationals, Congress chose both. ...
No doubt analysts can find provisions to praise and others to lament in this expansive legislation, but we should not overlook its most important shortcoming: its effect on federal deficits and debt.  ...
Under the 2017 tax law, the federal debt held by the public is estimated to rise to more than 96% of GDP by 2028, and this does not count the omnibus spending bill signed in 2018 by President Trump. ... If the current policy levels of taxes and spending are maintained, total deficits over the next decade will approach $16 trillion, with deficits greater than 5% of GDP beginning in 2020. By 2028, current fiscal policy will produce deficits of more than 7% of GDP annually. This is unsustainable. ... The budget legislation of the 1990s, along with the economic growth unleashed by the information technology revolution of the late 1990s, completely eliminated the projected deficits by the year 2000 and produced a federal surplus for the first time since 1969. Indeed, the budget surpluses projected by the Congressional Budget Office at the beginning of this century were so large that, in March 2001, Chairman of the Federal Reserve Alan Greenspan told Congress that the federal government would soon pay off all of the national debt and would have to begin investing its surplus revenues in corporate stocks, a prospect he abhorred. The good news is that this problem has been solved. 

I was also struck by the essay by Linda Sugin, "The Social Meaning of the Tax Cuts and Jobs Act." Sugin describes the social values that seem to underlie the provisions of the TCJA. She writes:
This Essay discusses five American priorities and values revealed by the TCJA:

1. The traditional family is best;
2. Individuals have greater entitlement to their capital than to their labor;
3. People are autonomous individuals;
4. Charity is for the rich; and
5. Physical things are important.
The TCJA’s distributional effects dovetail with these values. ... First, traditional families with a single working spouse and a stay-at-home spouse are disproportionately prosperous, so subsidizing that family model reduces progressivity. Second, access to capital increases with affluence, so a greater entitlement to investment income favors taxpayers who enjoy that affluence. Third, valuing individual autonomy is consistent with robust individual property rights, and less consistent with high levels of taxation for shared community purposes. Fourth, favoring the charitable giving of the rich allows them tax reductions not available to others, and sends the message that philanthropy substitutes for tax paid. Fifth, prioritizing physical assets favors individuals are able to invest in such assets and underrates the important value that workers contribute to prosperity. Critics of the legislation concerned about the law’s reallocation of tax burdens down the income scale and its projected budgetary deficits must focus more on these embedded priorities.

Of the other three papers, two papers dig into details of the changes in the international corporate tax regime, while the other argues that the Tax Cuts and Jobs Act will push firms away from the use of debt financing--and thus toward alternative types of financing--with implications that are not yet clear.

Rebecca M. Kysar discusses "Critiquing (and Repairing) the New International Tax Regime."
"In this Essay, I address three serious problems created—or left unaddressed—by the new U.S. international tax regime. First, the new international rules aimed at intangible income incentivize offshoring and do not sufficiently deter profit shifting. Second, the new patent box regime is unlikely to increase innovation, can be easily gamed, and will create difficulties for the United States at the World Trade Organization. Third, the new inbound regime has too generous of thresholds and can be readily circumvented. There are ways, however, to improve upon many of these shortcomings through modest and achievable legislative changes, eventually paving the way for more ambitious reform. These recommendations, which I explore in detail below, include moving to a per-country minimum tax, eliminating the patent box, and strengthening the new inbound regime. Even if Congress were to enact these possible legislative fixes, however, it would be a grave mistake for the United States to become complacent in the international tax area. In addition to the issues mentioned above, the challenges of the modern global economy will continue to demand dramatic revisions to the tax system."
Susan C. Morse raises implications about International Cooperation and the 2017 Tax Act.
"Some have criticized the 2017 Tax Act for lowering the corporate tax rate. This Essay argues instead that Congress deserves credit for bringing the U.S. rate in line with other OECD countries, potentially saving the corporate tax by establishing a minimum global rate. ... There is a silver lining for the corporate income tax in the Tax Cuts and Jobs Act of 2017. This is because the Act’s international provisions contain not only competitive but also cooperative elements. The Act adopts a lower, dual-rate structure that pursues a competitiveness strategy and taxes regular corporate income at 21% and foreign-derived intangible income at 13.125%. But the Act also supports the continued existence of the corporate income tax globally, thus favoring cooperation among members of the Organisation for Economic Cooperation and Development (OECD). Its cooperative provisions feature the minimum tax on global intangible low-taxed income, or GILTI, earned by non-U.S. subsidiaries. Another cooperative provision is the base erosion and anti-abuse tax, or BEAT. The impact of the Act on global corporate income tax policy will depend on how the U.S. implements the law and on how other nations respond to it."
Robert E. Holo, Jasmine N. Hay and William J. Smolinski discuss issues of corporate leverage in "Not So Fast: 163(j), 245A, and Leverage in the Post-TCJA World."
"The Tax Cuts and Jobs Act will require large multinational corporations to reevaluate the use of debt in their acquisition and corporate structures. Changes to the Tax Code brought about by the Act have reduced incentives to use debt in these contexts. These changes may require practitioners to identify new approaches to financing acquisitions and will necessitate reevaluation of current capital structures used by large multinational entities. ...
"In other words, is it a good idea to dampen the worldwide preference for debt in capital structures? Is there a problematic preference for debt that needs fixing in the first place? It is likely too early to make that call given the potential number of unintended consequences that my result under the new law. ... By changing the rules of the game, the IRS has effectively changed the inputs to that modeling exercise. It remains a complicated question whether, holistically, business entities carry excess debt relative to equity; but it is certainly the case that a new set of rules which, on their face, appear to favor equity over debt, may very well cause those modeling exercises to produce an output that suggests a shift in debt-equity preferences is in order."