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High-Speed Tax Rewrite Falters as Lawmakers Bicker Over Basics

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The 2012 budgets books are stacked up at the U.S. Government Printing Office in Washington. Close

The 2012 budgets books are stacked up at the U.S. Government Printing Office in Washington.

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Photographer: Alex Brandon/AP

The 2012 budgets books are stacked up at the U.S. Government Printing Office in Washington.

The collapse of efforts to kick off a U.S. tax code overhaul through a debt-ceiling compromise demonstrates how difficult it will be for lawmakers to rewrite the nation’s revenue laws.

Republican congressional leaders and President Barack Obama discussed a rewrite of the tax code over the past week and couldn’t resolve even the basic outline of what it should look like. They disagreed on revenue targets, the progressivity of the code, international taxation issues and the treatment of large businesses that aren’t currently taxed as corporations, according to two Republicans familiar with the talks.

Those disputes on important parameters that would guide an overhaul led House Speaker John Boehner to abandon efforts for a bigger deficit deal on July 9. Regardless of what happens in the debt-ceiling talks, the barriers that Obama and Boehner faced will recur if and when Congress attempts to restructure tax policy.

“This is a far more difficult and far more complicated process than, at least publicly, people have been willing to admit,” said John Buckley, the former chief Democratic tax counsel at the House Ways and Means Committee.

That challenge awaits Ways and Means Chairman Dave Camp and Senate Finance Chairman Max Baucus, who have each been holding a series of hearings on a tax overhaul and preparing to write major tax bills. The two committees tomorrow are set to hold what they are calling their first joint hearing on tax policy in more than 70 years, focused on how the tax code treats debt.

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U.S. President Barack Obama speaks during a news conference in the Brady Press Briefing Room at the White House in Washington, D.C. on July 11, 2011. Close

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Photographer: Joshua Roberts/Bloomberg

U.S. President Barack Obama speaks during a news conference in the Brady Press Briefing Room at the White House in Washington, D.C. on July 11, 2011.

Bedeviling Issues

When Camp, a Michigan Republican, and Baucus, a Montana Democrat, start legislating on a tax overhaul, they will face the same issues that bedeviled Obama and Boehner.

The president and the speaker couldn’t resolve what a tax code rewrite should look like, the people familiar with the talks said. Obama’s team said any overhaul must shift more of the nation’s tax burden to high earners, extending current tax rates for lower- and middle-income people while raising them to pre-2001 levels for the highest-income taxpayers.

Boehner’s side said such a plan would skew the tax burden to the wealthiest Americans more than it had been in the past, said the Republicans familiar with the discussions.

Republicans said a tax code revamp should ensure that most households pay at least some federal income tax, the people said. Republicans cite an April 2011 analysis by the Joint Committee on Taxation, Congress’s tax-estimating panel, which said about 51 percent of U.S. households owed no income tax in 2009. That percentage is a byproduct of the recent recession and policies designed to ease the tax burden on low-income workers.

Taxation of Businesses

Differences also emerged as to how multinational businesses are taxed. Boehner proposed moving the U.S. toward a system that would tax only income earned domestically, while Obama’s team didn’t embrace that idea, the people said.

Boehner’s team was concerned that businesses that operate as pass-through entities, whose owners pay taxes on their individual returns, would lose out in the overhaul. They were worried that some of these businesses would lose deductions or face higher taxation as so-called C corporations. Republicans say such moves would hurt small businesses.

“When you actually try to design a plan, there’s no way that you can keep everybody equal,” said former Representative Bill Archer of Texas, a Republican who headed the Ways and Means Committee from 1995 to 2000. “And so the losers then say, ’Well, wait a minute. That’s not what I meant by tax reform.’ And it is extremely difficult to do.”

Archer, now a senior policy adviser at PricewaterhouseCoopers LLP in Washington, said large companies represented by the accounting firm are already concerned about potential trade-offs.

‘Scared to Death’

“There’s a bunch of them that are scared to death about what revenue-neutral tax reform means for them,” he said.

Obama laid out some of his preferred parameters at a news conference yesterday. He said he wants to eliminate tax benefits for “corporate jet owners or oil companies” starting in 2013 and raise taxes on taxpayers such as himself. Obama and his wife, Michelle, reported $1.7 million in adjusted gross income for 2010, mostly from sales of his books.

“And what I’ve also said to Republicans is, if you don’t like that formulation, then I’m happy to work with you on tax reform that could potentially lower everybody’s rates and broaden the base, as long as that package was sufficiently progressive so that we weren’t balancing the budget on the backs of middle-class families and working-class families, and we weren’t letting hedge fund managers or authors of best-selling books off the hook,” he said.

Boehner, an Ohio Republican, said at his own news conference yesterday that he had a “big conversation” with the administration about revenue in the context of a tax overhaul. He reiterated that Republicans won’t support a tax increase.

Disagreement on Taxes

“Our disagreement with the president is not about closing loopholes,” he said. “None of us are fond of loopholes. Our disagreement is over raising taxes on the very people that create jobs in our country.”

Even those points of consensus may be less than they appear, said Buckley, now a visiting professor at Georgetown University Law Center in Washington. There are few, if any, special-interest loopholes large enough to drive significant reductions in individual and corporate tax rates.

Almost all of the estimated $1 trillion a year in tax breaks that could be curtailed to reduce rates have strong constituencies or economic justifications, and most survived the last tax-code rewrite in 1986. They include benefits such as the mortgage interest deduction, the exclusion of employer-provided health insurance, tax treatment of veterans’ benefits and incentives for retirement savings.

‘A Major Reduction’

“If you’re going to have a major reduction in rate, you’re not going to do that through carried interest or getting rid of the executive jet loophole,” Buckley said. “This is what you’re talking about.”

Carried interest refers to the share of an investment partnership’s profits that are treated as capital gains and taxed at 15 percent.

Senator Kent Conrad said yesterday that solving the country’s tax and budget challenges will require lawmakers to shift some of their long-held positions.

“It just can’t be so rigid,” said Conrad, a North Dakota Democrat who heads the Senate Budget Committee. “You’ve got to actually focus on solving a problem rather than just being rigid.”

To move a tax code overhaul forward, Archer said, the administration should advance a specific proposal, and Congress should engage in the details.

“You can have a lot of general utterance of support. Oh, this code’s too complicated and it needs to be made simpler, and it needs to be fairer,” he said. “You can go through all of that and you can have those utterances on both sides, but I don’t see that moving anything.”

To contact the reporter on this story: Richard Rubin in Washington at rrubin12@bloomberg.net

To contact the editor responsible for this story: Mark Silva at msilva34@bloomberg.net

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