Document Sample

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                        FIFTH MEETING

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                 WEDNESDAY, MARCH 23, 2005

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            The   Panel  met   in   the  Time-Picayune
Theater, Louisiana Children's Museum, 420 Julia
Street, New Orleans, Louisiana at 9:30 a.m.,
John Breaux, Vice-Chairman, presiding.




                       of Louisiana
ROBERT GREENSTEIN,     The Center on Budget and Policy
WILLIAM W. BEACH,      Center For Data Analysis, The
                       Heritage Foundation
HILARY W. HOYNES,      University   of  California  at
MARK MOREAU, Southeast Louisiana Legal Services
DAVID MARZAHL,         Center for Economic Progress
EUGENE STEUERLE,       Urban Institute
MARK PAULY, Wharton School, University of Pennsylvania
JAMES ALM, Andrew Young School of Public Policy,
             Georgia State Univ.



                         NEAL R. GROSS
                     1323 RHODE ISLAND AVE., N.W.
(202) 234-4433       WASHINGTON, D.C. 20005-3701


Welcome by the Panel Vice-Chairman                             4

                         NEAL R. GROSS
                     1323 RHODE ISLAND AVE., N.W.
(202) 234-4433       WASHINGTON, D.C. 20005-3701

Address by Louisiana State
       Treasurer John Neely Kennedy                                8

Panel: What is Fairness and How Can it Be

             Testimony of the Robert Greenstein                    22

             Testimony of William W. Beach                         31

Panel: Low-Income Taxpayers

             Testimony of Hilary W. Hoynes                         55

             Testimony of Mark Moreau                              65

             Testimony of David Marzahl                            72

Panel: Tax Treatment of Families

             Testimony of Eugene Steuerle                        101

             Testimony of Mark Pauly                             112

             Testimony of James Alm                                 123

                             NEAL R. GROSS
                         1323 RHODE ISLAND AVE., N.W.
(202) 234-4433           WASHINGTON, D.C. 20005-3701
1                               P-R-O-C-E-E-D-I-N-G-S

2                                                                       9:32 a.m.

3                         CHAIRMAN BREAUX:              Good morning, everyone.

4     The Tax Panel will please come to order.                                  We are

5    delighted to have our series of meetings around the

6    country on the President's Tax Reform Panel that I

7    have        the     privilege         of    co-chairing      along     with       our

8    distinguished Chairman of the Tax Panel, who is former

9    United States Senator Connie Mack, who is not with us

10   today.           But he is our Chair; I am the Co-Chair of the

11   President's panel.

12                        We    have       a    very   distinguished        group       of

13   panel members that are here with us this morning and

14   who     I        think    will    be       able   to   hopefully     produce            a

15   recommendation to the President of the United States

16   on how to reform and also to simplify the tax code.

17                        Let me just present, just for purposes of

18   information, who our panelists are that are with us.

19   Former member of Congress, former distinguished member

20   of the House Ways and Means Committee and now in

21   private           practice       in    Washington,      Mr.   Bill       Frenzel.

22   We're delighted to have Bill with us.                         To my right is

23   Liz Ann Sonders who is a Chief Investment Strategist

24   for Charles Schwab.                       She joined the U.S. Trust, a

25   division of Charles Schwab, in 1999 as a Managing

                                           NEAL R. GROSS
                               COURT REPORTERS AND TRANSCRIBERS
                                   1323 RHODE ISLAND AVE., N.W.
     (202) 234-4433                WASHINGTON, D.C. 20005-3701
1    Director and also is a member of their Investment

2    Policy Committee.

3                        To my left, we have Ms. Elizabeth, Beth,

4    Garrett who is the Sydney Irmas Professor of Public

5    Interest Law in Legal Ethics and Political Science at

6    the University of Southern California.                      Before that, I

7    had the privilege of working with her on the Senate

8    Finance          Committee   where      she   served       as    Legislative

9    Director         and   Tax   and    Budget       Counsel    to       my   former

10   colleague         on   the   Senate     Finance         Committee,        Former

11   United States Senator David Boren from the State of

12   Oklahoma.

13                       To her left is Mr. Ed Lazear who is a

14   Senior Fellow at the Hoover Institution and Professor

15   of     Human       Resources,       Management      and      Economics           at

16   Stanford         University's       Graduate      School        of    Business.

17   He's also the founding editor of the Journal of Labor

18   Economics.          We have other members of the panel who are

19   not with us.           But, looking at the distinguished nature

20   of these panel members, both Senator Mack and I are

21   very encouraged by the ability to produce a good,

22   solid product for the President and Administration to

23   consider.          These are truly real tax experts that make

24   up the composition of our panel.

25                       I'd   like     to   point     out     that       we   have        a

                                      NEAL R. GROSS
                            COURT REPORTERS AND TRANSCRIBERS
                                1323 RHODE ISLAND AVE., N.W.
     (202) 234-4433             WASHINGTON, D.C. 20005-3701 
1    distinguished group of witnesses who will be asked to

2    make presentations today.                    Let me first just sort of

3    set the stage about what we're attempting to do as we

4    hear from our witnesses today here in New Orleans.

5    We've had a number of meetings in Washington, a number

6    of meetings around the country, and today's meeting

7    here in New Orleans will focus on fairness in the tax

8    code      and     fairness        as   to    how    the   tax   code     treats

9    families.

10                       Before we can think about ways to reform

11   the tax code, we must certainly understand how to

12   think about the concept of fairness, including how do

13   you measure it and what are the perceptions about it

14   under the current tax system that we operate.                          Notions

15   of fairness in this country have all held the position

16   that a person's tax burden should be based on his or

17   her     ability      to     pay    and      economic      well-being.          Our

18   current          system    of     progressive        taxation,      including

19   refundable         tax     credits       for   low   income     tax    payers,

20   certainly           reflects           these       concepts     and        these

21   principles.         For example, each year

22   20 million people in our country receive the Earned

23   Income Tax Credit, the EITC, which encourages work by

24   providing additional income for those who work at the

25   lower income spectrum.                 An equally important notion of

                                       NEAL R. GROSS
                              COURT REPORTERS AND TRANSCRIBERS
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1    fairness held by Americans is that there should be

2    consistent tax treatment across the board for those

3    who are equally able to bear their fair share of the

4    cost of government.

5                           As we will hear today, I think there's

6    really           no     consensus        among      the    tax    experts         or

7    politicians or taxpayers on how to define the concept

8    of fairness.                In fact, much of the complexity in our

9    tax      code         was    the    result     of     numerous   attempts         to

10   distribute tax benefits among taxpayers based on some

11   imprecise notion of fairness.                       For example, there are

12   15 common tax benefits that are available to families

13   and      provide            14   different     phase-out       provisions         to

14   reduce benefits above a specific income level.

15                          These are 15 different tax benefits define

16   income in nine different ways.                        Complexity that we see

17   in the Code has a huge impact on the perceptions of

18   the       tax         system       by   treating        similarly       situated

19   taxpayers differently and creating opportunities for

20   manipulation by taxpayers and their tax advisors.                                And

21   any effort to reform the tax code obviously recognizes

22   and pays attention to these very important concerns.

23                          We're       delighted     to    have    welcome      us    to

24   Louisiana and also to present his thoughts about this

25   issue is John Kennedy who, of course, is the State

                                          NEAL R. GROSS
                                 COURT REPORTERS AND TRANSCRIBERS
                                     1323 RHODE ISLAND AVE., N.W.
     (202) 234-4433                  WASHINGTON, D.C. 20005-3701
1    Treasurer of our State of Louisiana.                         He will share

2    with us some of his thoughts about tax reform from the

3    perspective of states.                  I will introduce the other

4    witnesses as they make their presentation.

5                           John, we're delighted to have you.                        You

6    bring a great deal of expertise to this issue and,

7    just to point out for the record, you have been our

8    State Treasurer since 1999.                    Obviously, you oversee

9    all local and state bond issues, returning millions of

10   dollars           in    unclaimed     property      to      the     people        of

11   Louisiana.              Previously,     you    served       as    our    State's

12   Secretary of the Department of Revenue.                           So, not only

13   do you bring us welcome, you bring us a great deal of,

14   I think, expertise in the area of taxation.                                  We're

15   proud to have you and welcome your comments.

16                          TREASURER    KENNEDY:      Thank      you,       Senator.

17   Mr. Chairman, Members of the Panel, on behalf of my

18   fellow citizens, I would like to extend to you a warm

19   welcome to Louisiana.               I would be remiss if I did not

20   begin by offering a short plug for our state and our

21   city.

22                          We're very proud of our state.                   The Lord

23   has blessed us and, having blessed us, he blessed us

24   again.           We're at the top of the Gulf Coast, the middle

25   of the Gulf South.               We straddle one of the mightiest

                                      NEAL R. GROSS
                              COURT REPORTERS AND TRANSCRIBERS
                                  1323 RHODE ISLAND AVE., N.W.
     (202) 234-4433               WASHINGTON, D.C. 20005-3701
1    rivers in the world.                  We have more oil and gas than

2    most         nations.         We     excel         in   timber       production,

3    agriculture, aquaculture, petro-chemical manufacture.

4                         But our greatest strength is our people.

5    The people of Louisiana are fun-loving, God-fearing,

6    and hard-working.              We are also diverse.                Our heritage

7    is French, Spanish, German, English, Acadian, African-

8    American,          Lebanese,       and    I    could     go    further.           Our

9    diversity makes us strong, but it's the harmony within

10   that diversity that makes us successful.

11                        That's     why      our       primary     and      secondary

12   school accountability program has become a model for

13   other states.               That's why we can boast that we have

14   five of the twelve largest ports in the United States

15   in our state.           And that's why our growth state product

16   is growing at the eighth fastest rate in our country.

17                        I would also like to welcome you to New

18   Orleans.           New Orleans is the crown jewel of Louisiana.

19    It's unlike any other city in the world.                            I'll share

20   with you a quick story.                   In a previous life, I worked

21   for      a       governor    who    was       in   Japan      on   an    economic

22   development mission.                 He was speaking to a group of

23   Japanese business people and decided to ask them a

24   question.           He asked them, "How many of you have been

25   to Louisiana?"              Three people raised their hands.                    Then

                                        NEAL R. GROSS
                             COURT REPORTERS AND TRANSCRIBERS
                                 1323 RHODE ISLAND AVE., N.W.
     (202) 234-4433              WASHINGTON, D.C. 20005-3701  
1    he said, "How many of you have been to New Orleans?"

2    Twenty people raised their hands.                  We are very proud

3    of our City, and we're very proud that people want to

4    visit us.

5                     Also, in a previous life as Senator Breaux

6    mentioned,       I   served    as   Secretary      of   the   Louisiana

7    Department of Revenue.              That's a fancy way of saying

8    that I was the State's tax collector.                     I collected

9    over $17 billion in taxes in three and a half years,

10   which means it was a minor miracle I was ever elected

11   to my present position.

12                    Though I did work very closely with the

13   Internal Revenue Service, most of my experience with

14   taxes, therefore, is at the state level rather the

15   federal level.         Nonetheless, it's been my experience

16   that a tax is a tax.             And I've learned a few things

17   about state taxes that might help you as you begin the

18   process of formulating ways to improve the federal tax

19   system.

20                    I've learned that most reasonable people

21   understand the necessity to levy taxes.                 I don't think

22   they particularly like it, but they understand it.

23   They just want to know that everybody is paying his or

24   her fair share.        That's why the optimum tax system, in

25   my opinion, is the tax system that has the broadest

                                   NEAL R. GROSS
                          COURT REPORTERS AND TRANSCRIBERS
                              1323 RHODE ISLAND AVE., N.W.
     (202) 234-4433           WASHINGTON, D.C. 20005-3701
1    possible base which allows you to levy the lowest

2    possible rates of taxation.

3                            Second, the optimum tax structure, in my

4    judgment, should provide a reliable and predictable

5    stream           of    revenue     that     grows    with       the   anticipated

6    demand           for      public     services.              Congress          or     the

7    Legislature -- and I think this is very important --

8    Congress or the Legislature should not have to change

9    the tax laws frequently in order to counter inadequate

10   long-term              revenue      growth      or    volatile          short-term

11   revenue swings.

12                           Third,     the    optimum         tax   system,        in     my

13   judgment          should      not    strangle        business.           It    should

14   encourage the creation of jobs not discourage them.

15   American businesses compete directly with businesses

16   in other countries and capital labor and products are

17   highly mobile, as we all know.

18                           Fourth, and I mentioned this earlier, the

19   optimum tax system should be perceived as equitable

20   and fair.               Everybody should pay a little bit.                          The

21   optimum tax system does not seek to soak the rich, but

22   it     also           shouldn't     drown      the   middle      class        either.

23   Finally,          the     optimum        tax   system      should      be     simple.

24   Simplicity              reduces     the     cost     of    administering             and

25   complying with the tax laws and assists in maintaining

                                         NEAL R. GROSS
                                COURT REPORTERS AND TRANSCRIBERS
                                    1323 RHODE ISLAND AVE., N.W.
     (202) 234-4433                 WASHINGTON, D.C. 20005-3701  
1    confidence in the fairness of the system.

2                            In    short, the ideal tax system, in my

3    opinion, should provide the revenues needed to pay for

4    public           services,           maintain      an    environment            that     is

5    conducive           to        business        development,              minimize        the

6    resources needed to administer and comply with the tax

7    laws, be broad based so as to permit low rates of

8    taxation, and be perceived as fair.

9                            Perhaps         an        insight          or     two        about

10   Louisiana's             tax     system       will       be    of   benefit       to     you

11   today,           particularly          as    to    our       experience      with       the

12   sales and use tax.                         At the state level, Louisiana

13   levies 17 taxes.                     We rely primarily, however, on the

14   sales tax, which accounts for 37 percent of our state

15   revenue and the individual income tax, which provides

16   34 percent.                  Because I know you are looking at the

17   possibility of a national tax on consumption, such as

18   a    sales        tax    or      a    value added tax, which is just

19   another           way    of     collecting          a    sales      tax,     it's       the

20   state's sales tax on which I'd like to offer a few

21   thoughts today.

22                           First, the sales tax is not as simple as

23   it looks.               The Louisiana sales and use tax is an

24   excise tax.              It's a tax upon the transaction itself

25   not       necessarily                the     property          involved         in      the

                                            NEAL R. GROSS
                                  COURT REPORTERS AND TRANSCRIBERS
                                      1323 RHODE ISLAND AVE., N.W.
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1    transaction, though the property involved is obviously

2    important.         Louisiana levies the sales and use tax on

3    a broad range of transactions, ranging from sales at

4    retail, but also the use, consumption, and storage for

5    further user consumption within the State, leases and

6    rentals, and the performance of certain statutorily

7    described and enumerated services.

8                       Except for services, the sales and use tax

9    applies only to tangible, personal property such as an

10   automobile, as opposed to intangible personal property

11   such as a stock certificate.                 The line of demarcation,

12   however, is very hard to identify in many instances.

13   For example, what's information?                      Is it tangible or

14   intangible property?

15                      Today,     we    all        know     the       values         of

16   significant        commodities         purchased       and       sold     in     an

17   almost endless variety of formats.                          Which of these

18   formats are going to be taxed?                    And what's personal

19   property?          Personal,       movable      property          can     become

20   immovable         property,    such       as     when       a     movable        is

21   permanently attached to a building.

22                      And   what's    a    sale?         How       will    that     be

23   defined?         Should isolated or occasional sales, such as

24   the sale of Girl Scout cookies be taxed?                           And what's

25   the      sales    price?      Does      it     include       a    charge        for

                                   NEAL R. GROSS
                          COURT REPORTERS AND TRANSCRIBERS
                              1323 RHODE ISLAND AVE., N.W.
     (202) 234-4433           WASHINGTON, D.C. 20005-3701   
1    installation?           How do you treat a cash discount or

2    rebate?          What about freight?              Is that part of the

3    sales price?

4                       A   tax    system     founded      substantially             on

5    sales tax also has to address the question of whether

6    to tax services.              Louisiana does tax some services

7    through its sales and use tax, such as the furnishing

8    of sleeping rooms, certain admissions to places of

9    amusement, parking, printing, and cleaning services.

10   But we don't tax most services.                    This is a critical

11   issue because, as you know better than I, our nation's

12   economy is becoming more and more service based.

13                      Other issues that have to be addressed if

14   you decide to employ the sales and use tax as the

15   basis for your tax system, which, if any, exemptions

16   and exclusions will stay with the sales tax?                           And how

17   will those exemptions and exclusions, in any that you

18   choose, affect the elasticity of the tax?                         Louisiana,

19   for example, has a sales tax elasticity of about .75.

20    That means that our sales tax base grows at only

21   three-quarters          of    the    rate    of    the    growth        in     our

22   personal income.             Now, there are a lot of reasons for

23   this, but one of the reasons is the number of state

24   exemptions and exclusions.

25                      Also,      will     the    sales       tax      apply        to

                                    NEAL R. GROSS
                            COURT REPORTERS AND TRANSCRIBERS
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1    government?           That may seem like an easy question to

2    answer, but what about quasi-government entities, such

3    as     colleges       and     universities?           How     do    you     handle

4    return           goods?       What    will     be     the    record       keeping

5    requirements?             If business collects that tax for you,

6    what will be its compensation for doing so?                            These and

7    many other issues make it clear that the sales tax is

8    not as simple as it might first appear.

9                         Second, any system founded substantially

10   on a sales tax must address the question of whether

11   you       can       tax     transactions        consummated           over        the

12   Internet.            In     Louisiana,       there     is     a    use     tax     on

13   Internet purchases, but most people don't pay it and

14   it's almost impossible to enforce.                           The numbers are

15   substantial.               The    National      Governor's         Association

16   predicts state revenue losses to be more than $35

17   billion this year from online purchases.                           That figure

18   is estimated to increase to $45.2 billion next year

19   and $55 billion in 2011.

20                        Louisiana, which relies substantially on

21   sales and use tax, is expected to have losses of

22   $1 billion dollars in 2006 and $1.2 billion in 2011.

23   To put this in perspective, only 1.9 percent of total

24   retail sales nationwide were made online this year.

25   So     the       revenue     losses     have    the    potential         to     grow

                                       NEAL R. GROSS
                               COURT REPORTERS AND TRANSCRIBERS
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1    substantially over the next 25 to 50 years.

2                        The third point I'd like to make is to

3    encourage you to think of the impact of federal tax

4    reform on our states.                 It seems to me that, at the end

5    of the day, you have only two basic choices at the

6    federal          level,     a   tax    on    consumption      or     a    tax   on

7    income.          If you choose a tax on consumption, such as a

8    sales tax or a value added tax, please be mindful of

9    the      fact      that     almost      every     other      state       such   as

10   Louisiana already relies substantially on some type of

11   sales tax.

12                       As I said, Louisiana levies a state sales

13   tax of four cents.                  Now, that's below the national

14   average.           However,       at   the    local     government         level,

15   maximum sales tax rates are as high as 6.25 percent.

16   It's a combined rate of 10.25 percent.                        Louisiana has

17   one of the highest combined state and local sales tax

18   rates in the country.                    Adding a sales tax at the

19   federal          level     on    top    of    this,    will     impact       both

20   business and consumers.                     That's just a fact that I

21   know you will explore carefully.

22                       If you choose to tax income, please be

23   mindful of the fact that most states rely on the

24   federal government and the Internal Revenue Service

25   for help in administering their own income tax and

                                       NEAL R. GROSS
                               COURT REPORTERS AND TRANSCRIBERS
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1    insuring           compliance.              Thirty-six        states      and      the

2    District of Columbia use the federal computation of

3    taxable income as a starting point.                           States will face

4    increased costs and/or lost revenue if they do not

5    change           their    rules       to    adapt     their    system       to     the

6    federal system.                This will be true if you retain a tax

7    on income but change that tax from its current form,

8    or    if     you       reject     a    tax    on    income     in   favor        of      a

9    national tax on consumption.

10                          Additionally,          all     states    rely      on     tax-

11   exempt bonds to raise capital.                         Please be mindful of

12   how the changes you recommend will impact investors'

13   appetites for tax-exempt bonds, which will not only

14   affect state government, but our local governments as

15   well.

16                          Two final points, Mr. Chairman.                  First, in

17   my    opinion,           the    Federal      Earned     Income      Tax    Credit,

18   which rewards hard work in family has done more than

19   any other federal program to lift people, particularly

20   children, out of poverty.                           In the 2003 tax year,

21   512,351 Louisiana citizens in a state of only four and

22   a half million people received $1.09 billion in Earned

23   Income           Tax   Credits.            They    weren't     given    anything.

24   They had to have a job in order to qualify.                                  I urge

25   you to keep the EITC or substitute something better if

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                               COURT REPORTERS AND TRANSCRIBERS
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1    such a program exists.

2                          Second and finally, one of the reasons I

3    believe that Louisiana's tax system works reasonably

4    well is because we hold the state government to the

5    same      standard         that    the    state    government          holds     its

6    taxpayers.            We do so through Louisiana's Unclaimed

7    Property Program.                Since 1973, the State of Louisiana

8    has returned over $110 million in unclaimed property

9    to Louisiana citizens.                Our Unclaimed Property Program

10   is very aggressive, and it is very visible and I

11   believe            contributes        substantially          to        Louisiana

12   taxpayers' sense of fairness and equity.

13                         With respect, I cannot say the same thing

14   for the United States Government.                        For example, the

15   United           States    Department      of     Treasury,       as    of     this

16   moment, is holding $12 billion in matured, unredeemed

17   savings bonds.                  They have names and addresses that

18   belong           to   American      taxpayers       with     no     meaningful

19   outreach program in place to try to return that money.

20   That's just one example.

21                         I suggest that if you couple changes to

22   the      federal          tax    system    with    a   federal         unclaimed

23   property program similar to the unclaimed property

24   programs that have been so successful at the state

25   level, you will find that most taxpayers in America

                                        NEAL R. GROSS
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1    will be more likely to embrace any changes that may be

2    made.        With that, I conclude, Mr. Chairman.                         I thank

3    you for your time and attention, and I want you to

4    know how honored I am to have been asked to make this

5    presentation.

6                        CHAIRMAN       BREAUX:       Thank      you      so       much,

7    Treasurer         John     Kennedy.          John,    that    was         a    very

8    thorough and very detailed presentation with I think a

9    lot of very helpful comments.                   Your coverage of -- if

10   we consider a national sales tax, how that affects the

11   states -- I think is very helpful.                    I'm very delighted

12   to know that over half a million Louisianians benefit

13   from the Earned Income Tax Credit, and, in that case,

14   it seems to be working.                   So I think that point was

15   very,        very   helpful.           And    the    unclaimed          property

16   comment I think is certainly well worth considering.

17   So we very much appreciate your being with us and for

18   that       very     thorough      presentation.             Any     questions,

19   anyone?

20                       CONGRESSMEN FRENZEL:             May I inquire, Mr.

21   Kennedy, if Louisiana has an elasticity of sales tax

22   of .75, do you know what is the highest number among

23   the states?         How do you rank in elasticity?

24                       TREASURER KENNEDY: To a certain extent,

25   it's an educated guess.                  You measure your growth in

                                      NEAL R. GROSS
                              COURT REPORTERS AND TRANSCRIBERS
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1    personal income and compare that to the growth of your

2    sales tax base.                    Part of the reason, as I talked

3    about,           for        our    inelasticity         is      the    number         of

4    exemptions and exclusions.

5                           CONGRESSMAN         FRENZEL:      Nobody       ever       taxes

6    services.

7                           TREASURER KENNEDY: That's right.                      I think

8    the other reason, though -- and this is not unique to

9    Louisiana          --        as   an    individual       has      more      personal

10   income, as his or her personal income goes up, you

11   tend to spend that extra disposable income more on

12   services than you do on products, particularly in an

13   economy that's becoming more service-based.                                   There's

14   only so much bread and milk that you need.                              And as you

15   spend more and more of that income on services, that

16   doesn't generate tax revenue because those services

17   are not taxed. The only state that I'm aware of that

18   has      tried         to    substantially        tax    services         has      been

19   Florida.          They attempted to do so.                   It's been a number

20   of years, maybe a decade.                     The legislature did it one

21   year and undid it the next.

22                          CONGRESSMAN FRENZEL: Thank you very much.

23                          TREASURER KENNEDY: Yes, sir.

24                          CHAIRMAN BREAUX: Thank you.

25                          TREASURER         KENNEDY:            Thank       you,        Mr.

                                          NEAL R. GROSS
                                  COURT REPORTERS AND TRANSCRIBERS
                                      1323 RHODE ISLAND AVE., N.W.
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1    Chairman.

2                           CHAIRMAN      BREAUX:        We're       going      to      now

3    welcome up the first panel that will be presenting

4    their       testimony.             The   first      panelist       will     be     Mr.

5    Robert Greenstein who is the Founder and the Executive

6    Director          of      the      Center      on      Budget       and        Policy

7    Priorities.              Mr.       Greenstein       has     written       numerous

8    reports,          analyses,        op-ed    pieces,         and     articles         on

9    poverty-related issues.                  In 1996, Mr. Greenstein was

10   awarded a MacArthur Fellowship, and in 1994, he was

11   appointed by then President Clinton to serve on the

12   Bipartisan Commission on Entitlement and Tax Reform.

13   Prior to founding the Center, he was the Administrator

14   of     the       Food    and       Nutrition      Service         for    the     U.S.

15   Department of Agriculture.

16                          Joining him will be Mr. William Beach who

17   is     the       John    Olin      Senior     Fellow       in     Economics        and

18   Director          of    the     Center     for      Data    Analysis        at     the

19   Heritage Foundation.                 Previously, Mr. Beach served as

20   an economist for the Missouri Office of Budget and

21   Planning and as President of the Institute of for

22   Human Studies at George Mason University.                               A graduate

23   of Washburn University in Topeka, Kansas, he has a

24   Master's         Degree       in    history      and   economics         from      the

25   University of Missouri-Columbia.

                                        NEAL R. GROSS
                              COURT REPORTERS AND TRANSCRIBERS
                                  1323 RHODE ISLAND AVE., N.W.
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1                            Gentlemen, we welcome you here.                         We've

2    allocated ten minutes for your presentation.                                Robert,

3    if you'd like to start it off, we'd be pleased to hear

4    your testimony.

5                            MR. GREENSTEIN: Thank you, Senator.                        I'm

6    going            to        talk    primarily        about       three       issues,

7    distributional effects, other aspects of fairness in

8    the     role          of    the    EITC    and    improving      tax    fairness.

9    Clearly, as you mentioned at the outset, ability to

10   pay has always been an important part of the system.

11   And measuring the distributional effects of various

12   tax     proposals            is    a     key   element    in    developing         tax

13   reform           recommendations.                Many    economists       and      tax

14   analysts have concluded that the best way to measure

15   the       distributional                effects     is    to    look       at      the

16   percentage             change       in    after-tax       income     that       would

17   result.               After all, after-tax income represents the

18   income that households have to spend or save.

19                           Now, an important piece of background is

20   the      disparities              in     the   distribution        of   after-tax

21   income, from the top and the bottom of the income

22   scale, have widened pretty dramatically over the past

23   quarter century.                  The best data on this comes from the

24   Congressional Budget Office which recently has updated

25   its data.              CBO data covered a period from 1979 through

                                            NEAL R. GROSS
                                  COURT REPORTERS AND TRANSCRIBERS
                                      1323 RHODE ISLAND AVE., N.W.
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1    2002.            And, as this graph shows, there's been very

2    disparate effects during this 23 year period.                        This is

3    largely driven by changes in the economy rather than

4    changes in policy.            But we see, perhaps the next chart

5    gives it in graphic form, we see about a five percent

6    increase in after-tax income.                   This is in real terms

7    for the bottom fifth over the 23-year period, a modest

8    15 percent increase in the middle.                  And over a hundred

9    percent increase at the top.

10                       I think the comment I would make is that

11   tax policy changes certainly shouldn't accelerate or

12   exacerbate these trends.               In my view, they might lean

13   against it a bit, but, at a minimum, they should not

14   exacerbate it.

15                       Well, how do we measure these things?                         I

16   believe that the most informative distribution tables

17   now available are those that are issued by the Urban

18   Institute, Brookings Institute on Tax Policy.                             They

19   provide information that enables one to assess the

20   proposal from a variety of perspectives.                            They do

21   include           information    on    the      changes    in    after-tax

22   income.           Here is simply an example of a Tax Policy

23   Center distribution table.                I'm not going to go into

24   the details of the numbers here.                          It's simply an

25   example.

                                     NEAL R. GROSS
                            COURT REPORTERS AND TRANSCRIBERS
                                1323 RHODE ISLAND AVE., N.W.
     (202) 234-4433             WASHINGTON, D.C. 20005-3701
1                           Now, some criticisms have been made of

2    such tables.                I think the second speaker on this panel

3    will cover this issue.                        Criticisms sometimes refer to

4    such issues as that these tables normally look at

5    people's          or        households'        annual       income    rather       than

6    incomes          over        a     longer      period       and     don't     reflect

7    economic          effects         that     changes      in    tax    policy      might

8    have.            In my view, these criticisms sometimes are

9    overstated.                 For       example,      the Congressional Budget

10   Office, earlier this year, issued an analysis of the

11   effects           of        measuring         distributional         impacts         and

12   proposals,             if    you       look    at   people's      annual      incomes

13   versus incomes over a period longer than a year.                                     And

14   CBO found that, while the effects are somewhat less

15   marked when you use a longer time horizon for income,

16   the policies that are on an annual basis would have a

17   pronounced             effect.           It    would    primarily      effect        the

18   upper or the lower parts of the income distribution,

19   show broadly similar patterns whether you use income

20   over       one     year          or     incomes      over    a    longer      period.

21   Although, of course, the exact dimensions change.

22                          I'm going to move to my second area which

23   are various aspects of fairness.                             I'm going to talk

24   for a moment about the issue of a wage tax, which I'm

25   distinguishing from a consumption tax.                              Recent tax law

                                            NEAL R. GROSS
                                  COURT REPORTERS AND TRANSCRIBERS
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1    changes have begun moving the income tax toward a wage

2    tax.       Unlike the consumption tax, a wage tax does not

3    tax      consumption         made    from    existing       assets.          This

4    movement increases regressivity without capturing the

5    potential economic advantages of a consumption tax.

6    They're moving further in this direction with serious

7    equity concerns.

8                           For   example,       under        some     proposals,

9    affluent investors would be able to borrow substantial

10   amounts          and    deduct    the    interest      while     having        the

11   earnings on the investments that they made with the

12   borrowed funds largely or entirely exempt from tax.

13   That increases incentives for tax sheltering and, by

14   enabling affluent individuals to shelter substantial

15   income from taxation, it shifts tax burdens to the

16   less affluent.

17                          A recent study by Brookings scholars Bill

18   Gale and Peter Orszag notes that the middle 20 percent

19   of the population gets 80 percent of its income from

20   wages and salaries.               While the top one percent gets 50

21   percent of its income from wages and salaries.                           Looked

22   at it another way, the top one percent is projected to

23   earn      12     percent     of     total   tax    and      wageable     salary

24   income in 2004, but 46 percent of the total taxable

25   capital income.

                                       NEAL R. GROSS
                              COURT REPORTERS AND TRANSCRIBERS
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1                            What these figures mean is that, if we

2    shift toward exempting capital income from tax and

3    placing the full burden on wages, the effect would be

4    highly           regressive,      moving    the    tax   burden          down      the

5    income distribution toward families that derive most

6    of their income from work.

7                            Another equity issue involves retirement

8    savings.           Tax incentives for retirement savings in the

9    current tax system are upside down.                          About two-thirds

10   of the tax benefits from 401(k) and IRA preferences go

11   to the top 20 percent of households.                          The incentives

12   are larger for those in higher brackets.                            But this is

13   neither an efficient nor an equitable way to increase

14   retirement savings.               Studies suggest that upper income

15   households              are   more      likely      than       lower         income

16   households to shift existing assets in response to

17   saving tax incentives.

18                           The bottom line here is that well-designed

19   measures           to    reform    tax     preferences         to     retirement

20   saving could both increase equity and increase the

21   efficiency of the tax incentives in promoting saving.

22                           There's also the question of generational

23   equity.                 Tax    reform      shouldn't          saddle         future

24   generations with more debt.                    In this regard, I would

25   argue that reform proposals need to be measured in a

                                       NEAL R. GROSS
                               COURT REPORTERS AND TRANSCRIBERS
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1    way that goes beyond just a simple ten year revenue

2    neutrality because it's too easy to design tax changes

3    that are revenue neutral over ten years but lose large

4    amounts of revenue after that.                          An example would be

5    the current proposals for retirement savings accounts

6    and      lifetime         savings     accounts.           They    are     revenue

7    neutral over the first ten years.

8                            The   Congressional             Research         Services

9    estimated           that      they        ultimately      would      lose        the

10   equivalent of $300 to $500 billion over the ten years,

11   and this would be a problem in terms of generational

12   equity.

13                           John Kennedy talked about what you might

14   call       a      governmental       equity.        States       face     serious

15   fiscal problems as the population ages and all the

16   long-term care costs are in Medicaid not in Medicare,

17   which doesn't cover long-term care costs.                               He noted

18   that most states with an income tax conform to the

19   federal definition of taxable income.                              So, if the

20   federal           policymakers       narrow       the    tax     base,     states

21   either           lose    revenue     or    have    to    decouple       from     the

22   federal tax code which increases complexity.                             I would

23   urge that federal tax reform be designed in a way that

24   protects state revenue basis.

25                           My final topic is the role of the EITC and

                                        NEAL R. GROSS
                               COURT REPORTERS AND TRANSCRIBERS
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1    equity considerations.                 In the 1986 Tax Reform Act,

2    the EITC expansions were used in a critical fashion to

3    maintain          the    distributional       equity        of    the     overall

4    package.          As Senator Breaux may recall, in the 1980's,

5    1990,       and     1993,    the    EITC    expansions           were   used       to

6    offset the regressive effects of increases in payroll

7    taxes and various forms of excise taxes.

8                        The EITC has other critical attributes as

9    well.            It substantially increases work and reduces

10   welfare          receipt.        Census     data    has     shown       that       it

11   reduces poverty among children by more than any other

12   program.          It has lower administrative costs than other

13   means-tested programs.                 It's long enjoyed bipartisan

14   support.          I can footnote that the founder of the EITC

15   was former Louisiana Senator Russell Long.

16                       But the EITC could be made simpler and

17   fairer.            Its     error     rate    primarily           reflects        its

18   complexity.             EITC instructions have more pages than

19   the AMT instructions.               I would urge the panel to look

20   at the EITC simplification package that the Treasury

21   and the Administration proposed last year, as well as

22   the possible consolidation of the EITC, the child tax

23   credit, and the personal exemption for children.                                   An

24   author of such a proposal, Gene Steuerle, will be a

25   witness later today.

                                      NEAL R. GROSS
                              COURT REPORTERS AND TRANSCRIBERS
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1                        Also, the EITC has a marriage penalty.

2    And, while various other marriage penalties in the

3    Code were eliminated in 2001, the EITC one was only

4    modestly reduced.

5                        A final equity issue regarding the EITC is

6    that one of the goals of the '86 Tax Reform Act was

7    that workers who are below the poverty line should not

8    owe income tax and be taxed deeper into poverty.                                  The

9    goal is missed in one area, single workers.                              A single

10   worker at the poverty line today pays over $800 in

11   federal          income     and   payroll      taxes    not    counting           the

12   employer's          share,        $1600    including         the     employer's

13   share.           These workers begin owing income tax several

14   hundred dollars below the poverty line.

15                       It is not hard or costly to address this

16   problem.           That could be done by enlarging the very

17   small EITC for workers not raising minor children, for

18   example, by placing the credit rate at the combined

19   employer/employee rate of 15.3 percent.

20                       That      largely     concludes      my    presentation.

21   As I've noted, distributional measures are important,

22   but     most      important       is    after-tax      income.           I    think

23   there's serious equity concerns raised by a wage tax

24   by     the       current      incentives       for     retirement          saving.

25   Intergenerational              and     intergovernmental           equity         are

                                       NEAL R. GROSS
                               COURT REPORTERS AND TRANSCRIBERS
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1    very important, and the EITC is absolutely critical in

2    fairness         considerations        but     could     be     improved         by

3    making it simpler and fairer and insuring that all

4    workers below the poverty line are not taxed deeper

5    into poverty.

6                        My final comment would simply be we do

7    have a model that meets every one of these standards.

8     It was the 1986 Tax Reform Act, which to me, is one

9    of the great pieces of legislation of the last quarter

10   century.

11                       CHAIRMAN         BREAUX:      Thank            you,        Mr.

12   Greenstein, for that presentation.                     I'll just observe

13   that the "thunder" that we're hearing is really not a

14   thunder storm.              The weather is very clear outside.

15   This is the thunder of young children here at the

16   Children's Museum on top of us somewhere, and we'll

17   just have to deal with it.

18                       We're    pleased      to   have     Mr.     Bill      Beach.

19   Bill,       we're    delighted       to   have    you       here    and      look

20   forward to your presentation.

21                       MR.     BEACH:    Thank      you     very      much,       Mr.

22   Chairman.           Distinguished         members      of     the     Advisory

23   Panel, it's an honor to be with you this morning.                                    I

24   can't help but observe that I feel like I'm working at

25   home, and I felt eminently more comfortable than I

                                    NEAL R. GROSS
                           COURT REPORTERS AND TRANSCRIBERS
                               1323 RHODE ISLAND AVE., N.W.
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1    thought I would be, so I'm enjoying the sound of the

2    pitter-patter, as it were, of little feet.

3                          Let me ask you to start with a mental

4    construction and keep this in mind for the next few

5    minutes          of   my    presentation.           That      construction         is

6    this: In a perfect tax world, every taxpayer at each

7    income level would be treated equally, and the more

8    people made in taxable income, the more tax they would

9    pay.         In that world, as well, the taxes levied to

10   raise the necessary revenues for necessary government

11   would       not       interfere      with     the    equal     right      of     all

12   taxpayers to use their labor and capital in such a way

13   as to achieve their economic and social goals.

14                         That simple mental construction or model

15   is crucial to the work that you have been charged to

16   do and the policy work that will follow for your

17   counterparts in the Congress of the United States.

18   You need to have a model in mind against which you

19   will evaluate the horizontal, the vertical, and the

20   forward equity of changes in our tax code, and that's

21   what I was referring to.

22                         If you lived in this simple world, then

23   every tax change to the nation's tax law would have to

24   pass the test.               Does the change treat equals equally?

25    Does it reinforce vertical proportionality                                of our

                                        NEAL R. GROSS
                                COURT REPORTERS AND TRANSCRIBERS
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1    tax system?            Do people pay their fair share?                          And does

2    the change in tax law disturb the work that people are

3    doing        peaceably         toward         their     economic          and       social

4    goals.

5                           Unfortunately,           we    do     not       live     in    this

6    perfect world even though this model is the key to the

7    survival          of     good       policy      in      a    world       awash        with

8    conflicting             interests.              Also,       unfortunately,              the

9    analytical tools that you have at your disposal for

10   evaluating the equity elements of proposed changes are

11   rather crude.                 They're easily abused and not well-

12   suited for answering these key equity questions.

13                          That being so, lawmakers have to consider

14   policy           changes           in         terms         of     these            equity

15   considerations.                And so what I want to talk to you

16   about in the next few minutes, focus in on, are some

17   of     the       tools       that       are    commonly          used     to     reveal,

18   analyze, and evaluate equity.                           Some of the problems

19   that those tools have, even though this is an archaic

20   subject, it is crucial because it is with the tools

21   that       you    answer        those         questions.           And,        if    those

22   questions         are        central      to    the    very       enterprise          that

23   you're engaged in, then the quality of those tools is

24   absolutely central to the outcome of that enterprise.

25                          One    of    the       key     goals       of    distribution

                                         NEAL R. GROSS
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1    analysis -- and that's what Bob and I have actually

2    sort of introduced to you this morning in different

3    ways --          is to show how policy change affects the

4    economic well-being of tax payers and non-taxpayers.

5    The problem, however, in answering that question, how

6    is economic well-being affected, is in deciding how do

7    you measure the relationship between tax policy and

8    economic           well-being.             And,         here,     economists,

9    accountants,          advocates          for    tax     change       have     very

10   different views of what the metric should be, what the

11   unit of measurement should be.

12                       Now,     the    most       common    way    of    measuring

13   equity issues is to look at income, and that seems so

14   obviously simple.                Everybody who pays taxes, at least

15   at the federal level, because we have a tax that's

16   based on income, has income.                          What could be more

17   simple than that?                Well, my definition of income may

18   differ significantly from someone else's definition of

19   income.          At one extreme, income is just simply cash,

20   cash coming into my pocket, cash going out of my

21   pocket.

22                       At another extreme, there is a concept

23   which       many    of     you     are   familiar       with    or    will      be,

24   unfortunately will be.                    And that would involve an

25   enormous amount of value from cars, washing machines,

                                       NEAL R. GROSS
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1    and other things which come into to give you more

2    economic clout than what your income would otherwise

3    reveal.

4                           So what is income?         Do we include in that

5    net worth?             And, even if we could settle on an income

6    concept, ladies and gentlemen, we would have a big

7    problem figuring out is the data any good.                               The data

8    that we use for distribution analysis is necessarily

9    historical data.             And so you're relying on data which

10   is at least two years out of date to make changes on

11   tax policy that will have relevance ten years from

12   now.       And that data is collected by agencies that are

13   increasingly             losing    their     funding        at     the     federal

14   level.

15                          Massive cuts in spending for the Census

16   Bureau, for the Bureau of Labor Statistics, for state

17   agencies          that     collect       income    data      are      coming        at

18   exactly          the    wrong     time    when    we   have      to      make     big

19   decisions about Social Security based on data, income

20   taxes based on data, and so forth.

21                          Some people have suggested there's so much

22   controversy about the definition of income why don't

23   we use another concept.                  Why don't we use consumption?

24    And this has a strong intuitive appeal.                            Consumption

25   data       follows       income.         Consumption        follows        income.

                                       NEAL R. GROSS
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1    And,      yet,         consumption        kind    of    reveals       itself.              I

2    consume less when I'm young.                       I consume more when I'm

3    in my middle age.                 My consumption falls again when I'm

4    older.            Why not distribute the impact of your tax

5    policy changes based on consumption data?                                 It's very

6    intuitive.               But,     there,     consumption         data      also      has

7    problems.             The Consumer Expenditure Survey is a widely

8    criticized survey.

9                           Consumption        data     is   controversial,             too.

10   What        is         short-term         consumption           versus        current

11   consumption versus long-term consumption?                             What is the

12   metric that you use for that?

13                          Another view is let's look at changes in

14   marginal tax rates.                   And this is very interesting; it

15   gets me into my second point.                      If looking at income is

16   problematical, and income quintiles are problematical,

17   and looking at consumption is problematical -- for

18   purposes              that     I've     laid     out     in      my     PowerPoint

19   presentation that you can look at with even greater

20   detail           --    perhaps       another     way    of      looking       at     and

21   testing how well we're fine tuning our tax code is to

22   look at marginal tax rates.

23                          Now,      this    takes    me    back     to    my     initial

24   point.           In that ideal world that we're dealing with in

25   the mental construction, vertical equity would say the

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1    more you make the more you would pay.                  And, perhaps in

2    a progressive income tax system, the taxes paid would

3    be matched by increasingly steady, relentlessly steady

4    marginal tax rates.            So, if you use the change in

5    marginal tax rates over income as your metric, then

6    you     could    compare   your    tax    policy       change   to     this

7    perfect distribution of the marginal tax rate.

8                     Let's look at some effects of recent work

9    that Congress has done on our tax code to see whether

10   our tax code is fair, just using that metric.                     I think

11   it's a very solid metric.             It takes progressivity in,

12   and it looks at the vertical equity issues.                      This is

13   not downtown New Orleans.                This, in point of fact,

14   looks at changes in marginal tax rates in 2004.

15                    If we were to impose the 1986 Tax Act and

16   the marginal changes in the Tax Act, we would not have

17   a picture of a city.            We'd have a picture of -- is

18   there a hill in Louisiana?

19                    CHAIRMAN BREAUX: About this big.

20                    MR. BEACH: About that big.                Well, then

21   we'll go into another state that people are familiar

22   with in which there are hills.                And you would start,

23   and this would be a nice hill that you would see.

24   But, since 1986, what has happened is that Congress,

25   in its wisdom, have come into this tax code's world,

                                 NEAL R. GROSS
                             1323 RHODE ISLAND AVE., N.W.
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1    this      almost    perfect     situation,       and have introduced

2    subsidies        for    education,      subsidies         for    low     income

3    people to pay for certain things, all kinds of credits

4    and deductions.

5                       And what has happened is that, as we go

6    across income -- and that's this horizontal scale --

7    the impact of these various subsidies and exemptions

8    has created this situation in which, not only do we

9    lose        horizontal      equity      for     taxpayers          in      equal

10   positions of income to be treated equally because they

11   have         different      businesses,         children,           different

12   educational        situations,        but     also    at    the       vertical

13   equity, we have a serious problem as you can see from

14   this fine graph.

15                      CONGRESSMAN FRENZEL: Does that include the

16   FICA tax?

17                      MR. BEACH: I don't believe it includes

18   FICA taxes, Congressman.              But I'll tell you there is a

19   document which I will introduce into my testimony by

20   Kevin Hassett that explains this wonderful graphic and

21   could become famous.            You can see from this next graph

22   that hillside, which is that fine dotted line in the

23   background that I was referring to.

24                      Let me conclude.            When we're looking at

25   changes to the tax code, we need to find metrics that

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1    are sensitive.           We need to find tools of distributing

2    the impact which meet the three equity goals we have

3    in mind, horizontal, vertical, and forward looking.

4    We need to keep in mind that snapshots of data, in

5    these distribution tables based on historical data, do

6    not at all capture the key element that we're looking

7    for.        And that is, how does this affect people years

8    from now and how does this affect the changes over

9    time?

10                       You need to think, somewhat, not as much

11   as other fundamental tax reform issues that you have,

12   but somewhat on the important questions of measurement

13   of data because in that archaic, in the weeds, in that

14   part of the unmown lawn of tax analysis, lays the

15   answers          that   we   have    to    answer     --   lays    all      the

16   problems of equity, having some fashion or another on

17   data dimension.

18                       So be cautious, be careful, when people

19   give you oversized distribution tables, when they say

20   this is the way the quintiles break out for reasons

21   that are in my written testimony.                     But be relentless

22   in your search for usable metrics that can inform not

23   only your decisions, most importantly, the decisions

24   of the members of the                Congress of the United States

25   who are sitting in a very dangerous place, Washington,

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1    D.C.         Where every time they turn around, are four

2    lobbyists asking them to do four different things to

3    the tax code.            Thank you.

4                       CHAIRMAN        BREAUX:        I        thank        you        both,

5    gentlemen, for the presentations.                      You've given us two

6    different         perspectives,         obviously,           as     far       as    the

7    focus, and I think it's very helpful for us to receive

8    both those approaches.

9                       I met with a group of folks a couple of

10   weeks ago, and there were a couple of gentlemen who

11   were all chief executives.                    And the discussion was

12   about       the    tax     acts,     and    one       of    them        said,      "Tax

13   everybody         17   percent,       and   we'll          all    pay     the      same

14   percentage.            That's      fair.       And         what's       wrong      with

15   that?"

16                      Obviously,          when       we         go         to         other

17   alternatives, whether it's a sales tax or a flat tax

18   or maybe a consumption tax, one of the challenges is

19   going        to   be     to   determine       how      we        look     at       these

20   alternatives and yet still make it fair to those who

21   can afford to pay and those who can afford to pay the

22   least.

23                      So either one of you give me a comment or

24   both give me a comment, if we go to another system and

25   consider those recommendations, can it be done in a

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1    way that also is fair and reserves what the President

2    said is reasonable progressiveness in the tax code?

3    Or is that almost impossible to do?

4                         MR. GREENSTEIN: I think theoretically --

5    there has been various books that have been written on

6    this.            Theoretically, one could design a consumption

7    tax that's quite progressive.                     But what you actually

8    have to do in order to do that I think is almost

9    politically impossible to pull off.

10                        CHAIRMAN BREAUX: The more complicated it

11   gets?

12                        MR.    GREENSTEIN:      Also,     one      starts       into

13   various kinds of exemptions and all sorts of things

14   like      that.        And    sometimes      we    sort    of    compare         an

15   idealized consumption tax to the current income tax.

16   The current income tax reflects the real political

17   world, and any consumption tax is going to do that as

18   well.

19                        You know this is getting a little beyond

20   your question, but I think as one looks at what's

21   going       to     happen    when   the    boomers     retire        in    large

22   numbers and health care costs continue to rise, I

23   think inevitably -- and maybe this isn't for a couple

24   of decades -- inevitably, we're going to need to raise

25   more revenue.              And I think one can certainly consider

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1    a hybrid system where one has a reformed income tax

2    and one has, let's say, a VAT as well.                              But, in the

3    real world, I think it would be extremely difficult to

4    completely replace the income tax with another kind of

5    system and maintain the progressivity of the current

6    system.

7                           One last point should be borne in mind,

8    most state tax systems are regressive.                               Under most

9    state       tax        systems,    the   percentage          paid    in     tax      is

10   actually somewhat lower, higher up on the scale than

11   further down on the scale.                     This is balanced out or

12   actually           modestly       more   than     balanced          out     by     the

13   progressivity             of   the   federal      system.           But     another

14   reason           why    it's   really     important      to     maintain           the

15   progressivity of the federal system is that it is part

16   of the larger inter-governmental system of taxation.

17   And the other elements in that system do tend to be

18   regressive.

19                          CHAIRMAN BREAUX: Mr. Beach, do you have a

20   comment?

21                          MR. BEACH: Yes, I do.             The question you

22   asked is can we change the system fundamentally to

23   make it fair, and the answer to that question is most

24   certainly we can.                  First of all, the panel should

25   embrace a consumption tax of some sort.                             Now, I think

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1    there       are   significant     administrative          and    political

2    problems with a national retail sales tax.                           But it

3    moves in the direction of economic growth, of putting

4    the tax code into the position that it should be in

5    and that is to raise necessary revenues and taking it

6    out of where it is currently moving, and that is fine-

7    tuning social and economic outcomes.                    I'm very much in

8    favor of that as indeed are all economists who will

9    come and testify before you.

10                     I think a flat consumption tax is doable,

11   and I think it has all three equity elements in it.

12   If we were to look at the business side, you've got

13   clearly a value-added tax operating there.                      That is if

14   you were to say, take all your business income, deduct

15   all the material costs involved, deduct wages, and

16   then pay a tax on what's left over, that is, in fact,

17   a value-added tax and is administrative simple.                              It

18   really helps business see where it needs to go.                            And

19   full exemption of acquisitions in the year of the

20   acquisitions, that's very positive from the economy

21   standpoint.

22                     On the individual side, put in a very,

23   very       favorable,    large      family     allowance,         $45,000,

24   $50,000 for a family of four, and then have a single

25   rate on the tax.             The President has asked you to

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1    retain           the    mortgage      interest       deduction      as    well       as

2    charitable deductions and there may be others you're

3    going to be asked to retain.                              Every one of those

4    retentions will increase the rate somewhat.

5                            But    at    the     end     of    it,     Senator,        Mr.

6    Chairman, you are able to do this.                            It has been done

7    before, fear not where you can go because others have

8    led there.              The big problem we haven't discussed yet,

9    I don't believe, is the alternative minimum tax, which

10   is coming at us like a very large freight train.

11                           MR. GREENSTEIN: One quick point.

12                           CHAIRMAN BREAUX: Okay quickly.

13                           MR. GREENSTEIN: Sort of a what not to do.

14    The worst of both worlds, I think, is do you tax

15   another           consumption          tax    that        primarily        is      the

16   potential          for        some   economic      gains      in   promotion         of

17   saving and some disincentive for as much consumption?

18                           It seems to me the worst of both worlds

19   is, rather than either reforming the income tax or

20   having an income tax and also have separate and on top

21   of it, say, a value-added tax, to say we're going to

22   keep the income tax and we're going to make changes in

23   it     that        we    think       move    it    in     a   consumption          tax

24   direction but we're really not going to do all the

25   things you need to do to get a consumption tax, and

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1    you end up with a wage tax.

2                        For example, you put in big allowances,

3    big deductions for savings while continuing to allow a

4    deduction for interest on money that's borrowed.                                    If

5    you do that, a) you lose a lot of revenue, b) you make

6    it much more regressive.                   You really put the burden

7    more on wages, and you lose the bulk of the economic

8    advantages          of      a     consumption         tax      because            all

9    consumption made from existing assets still escapes

10   tax.        So that approach I think is the worst of all

11   worlds.          That's sort of a what not to do.

12                       MR.     BEACH:     I   totally         agree     with       that

13   because the motto is tax all income once and at its

14   source.

15                       CHAIRMAN BREAUX: Any other questions from

16   the panel members at this time?

17                       MS. GARRETT: I'd like to talk about the

18   inter-generational              fairness       that    you     both        raised.

19   Bill, using forward equity as the terminology, and,

20   Bob, with inter-generational equity.                        At the end, Bill

21   tells us we have to think a lot about how we measure

22   things, that that's one of our responsibilities.                                        I

23   want       to     think     about      that.          As    you      know,        the

24   President's budget has a five year window, Congress

25   tends to use a ten year window.                       Many of the changes

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1    we've       made      over   the   past    few    years    have    actually

2    resulted         in    revenue     loss   well    outside    that     window

3    whether it's a savings account or you think about

4    provisions that expire. But we all know are going to

5    be extended if Congress and the President have their

6    way.

7                          But how do we start thinking about revenue

8    loss outside that ten year window?                         And here's my

9    problem.           Just as I think we must be very wary of

10   moving toward more dynamic revenue estimation because

11   of the difficulties with the economic assumptions, the

12   uncertainties, we all know there are more feedback

13   effects that are currently captured by current revenue

14   estimating which is not static but not fully dynamic.

15    We also know that there are going to be lots of

16   economic assumptions that have to undergird estimates

17   of future revenue loss.                And, again, we start getting

18   into a very uncertain world.                  So how do we deal with

19   that in the limitations of our economic tools to do

20   that kind of projecting into the future?

21                         MR. BEACH: There are some steps that can

22   be taken, perhaps not by the panel but by the larger

23   community of analysts to prepare ourselves for that.

24   One of the most important things we can do right now

25   is to look at -- study very closely the longitudinal,

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1    long-term spending behaviors of retirees.                                There are

2    rich data sources available.                     Those data sources are

3    expensive to produce, but at the university and the

4    governmental level, teams could be producing that.

5                            I have this to suggest to you.                      We know

6    very little about the income potential of retirement

7    people.           My generation, and I hasten to say those of

8    several of us in this room, we're in our 50's.                                  We're

9    doing things that are amazing.                      We're jogging.              We're

10   watching our waistlines, and our life expectancies are

11   moving           up.      But,      more   importantly,         our     work      life

12   expectancies are moving up.

13                           The   largest      transfer       of    assets       in     the

14   history of the world is coming to us from our parents,

15   15 trillion by some estimates.                        We will transfer 38

16   trillion           to    our       children.        How    do       those     wealth

17   transfers affect the establishment of small business,

18   the capitalization of knowledge industries, all these

19   sorts of new elements to the tax base as well as to

20   the outlays of the government are present.

21                           And    I    clearly    think       the      panel       could

22   recommend to the President -- this would be a good

23   thing, and I'm joining this -- a massive effort to

24   better           understand         the    dimensions          of   revenue,          of

25   economic activity, all of that in the next 50 years,

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1    which, of course, will be dominated by the great aging

2    of      the      United   States.          Of        course,     that       aging

3    phenomenon's worldwide.              So you have capital effects

4    from all around the world as populations get older,

5    and older, and older.

6                       Now, I won't go on the policy, and I'll

7    shut up in a second because my job here really is to

8    keep pounding away at the data.                      And it is a scandal

9    how little we know from the data side on taxes.                             It is

10   absolutely         ridiculous       that        we     don't      spend         the

11   $100,000, $200,000 to get a larger longitudinal sample

12   than the one that's out there right now.                           The IRS is

13   totally strapped for cash to get this done.                          The Joint

14   Committee does what it can and does a beautiful job,

15   but it is put in a different position of answering

16   questions because it simply hasn't access to data,

17   which I think are readily available.

18                      MR. GREENSTEIN: Let me say I share your

19   concern --

20                      MS. GARRETT: Can you put the microphone

21   closer?

22                      CHAIRMAN    BREAUX:      The        mic   a    little        bit

23   closer.

24                      MR. GREENSTEIN: I share your concern about

25   the dynamic scoring because there's so much difficulty

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1    in trying to predict the long-term economic effects of

2    tax policy changes.                   If you take the 2001 and 2003 tax

3    cuts as an example, you have one group of people,

4    including Mr. Beach and his colleagues, who think that

5    it    will        produce          significant        increases in long-term

6    economic growth.

7                            You have another group of very eminent

8    experts, a number of them colleagues of Mr. Frenzel's

9    at     the       Brookings          Institution,           who   think    it's     more

10   likely           to    produce      reductions         in long-term economic

11   growth.               The point simply being, experts can't even

12   agree on the sign. Is it positive or is it negative?

13                           With regard to this issue, how do we make

14   sure or how do you approach the issue of going beyond

15   ten years and not causing increases in debt?                                   Let me

16   clarify, what I did not mean to suggest was that you

17   should ask the Joint Tax Committee or the Treasury to

18   do    year        by     year,      20    year,       30    year,   40    year     cost

19   estimates.              I think they're probably at their limit

20   when they go for ten years.

21                           But    I    think       the    goal      should   be     that,

22   whatever the revenue effect is, a share of GDP at the

23   end of the period is what you what to -- you don't

24   want to see downward effects after the end of the

25   window.               You     don't      need   year-by-year        estimates          to

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1    assess that.       For example, you know that if, to take a

2    hypothetical example, if you convert traditional IRAs

3    to Roth IRAs, well you're going to get a revenue gain

4    in the short term as people roll them over, and you're

5    going to get a big revenue loss on the back term.

6    And, if you did just the ten year estimate, you might

7    think you were gaining money or at least neutral.                        But

8    you would know that, as a share of GDP, revenue would

9    decline over time.

10                    There is analysis one can do where you can

11   come up with a pretty good estimate of whether you're

12   likely to be city, state or you're likely to have the

13   revenue decline.        And that's what I'm suggesting, not

14   some year-by-year estimate beyond ten years.                     But our

15   long-term fiscal problems are so severe that in no

16   area        of   policy,    whether       it's     tax     reform          or

17   entitlements or anything else, in no area of policy

18   should we be doing anything to make it worse.                      That's

19   really the plea that I make.

20                    CHAIRMAN BREAUX: Thank you.             This has been

21   very helpful.       Any other questions?

22                    MR. LAZEAR: When you talk about fairness,

23   the criteria that you're using primarily is ability to

24   pay.       And we normally think of ability to pay as being

25   related to income, but they're also other aspects of

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1    ability to pay as well.                  For example, something like

2    an unanticipated medical expenditure that affects your

3    ability          to   pay   might      be    something       that,       from         a

4    fairness criterion, we'd want to take into account.

5                          The problem with doing that is that, once

6    we     start      thinking       about      things    like      unanticipated

7    medical expenditures, some of those are discretionary.

8     We have measurement problems, of course.                               And the

9    issue that becomes, does that lead us down a slippery

10   slope into considering all kinds of other aspects of

11   behavior         that    might    be     called      ability     to    pay      and

12   thereby be incorporated into the tax code under the

13   guise of fairness?

14                         Do either of you worry about that?                      And,

15   if so, is there a logical distinction that one can

16   make that will allow us to have some principles or

17   some rules by which we can set up some strict notion

18   of ability to pay?

19                         MR. GREENSTEIN: That is a great question,

20   and I'm afraid that I don't quite have an answer

21   that's up to the question.                  I don't think --

22   at    least       I    don't   have    in    my   head     --    some     simple

23   principle that answers the question.                       I mean what you

24   just noted is sort of what has led to the various

25   deductions and other things we have in the tax code

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1    now.        And I think one would neither want to say that

2    we should ignore all of them, nor that we need all of

3    them.        But the problem, as you noted, once you start

4    down that path, you go farther and farther.

5                       And all that I can say I think is that,

6    while I think each issue has to be viewed on its own

7    merits, the cost of the potential cascading effect, by

8    general sense, is the broader the base and the fewer

9    the exemptions, the better.                I really do view the '86

10   Tax Reform Act as the gold standard.                     And, when we got

11   beyond '86, various people, in good faith, had various

12   exceptions they wanted to make to '86.                      And, once we

13   started          adding   things      back,     we       started      adding

14   everything back.           We're probably worse than we were

15   before '86 at the present time.

16                      So I worry that, if we start making too

17   many exceptions, it all falls apart.                     And I think both

18   the      most     efficient    and    in   many      ways    the     fairest

19   approach is particularly the horizontal standpoint.

20   The broader the base, the fewer the exemptions, the

21   fewer the differential rates, the more the '86-type

22   approach, and then one is also able to have lower

23   rates at the same time.

24                      MR. BEACH: I'll just second that.                 I don't

25   have a good answer either, but I think the answer, if

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1    it were a good one, would have three things to it.

2    And that is, for life's unfortunate outcomes that are

3    unpredictable, we cannot have a tax code that predicts

4    them.            And so the tax code has to anticipate things

5    will happen, which reinforces the reason we need low

6    rates.           We need a broad base, and we need a tax code

7    that promotes savings in households so that they can

8    build       these     nest       eggs,    these    rainy     day     funds        to

9    finance these average outcomes themselves as much as

10   possible.

11                        And    then,    of    course,      outside        of     what

12   you're doing, we need to look at healthcare.                                    And

13   that's what's hanging over a lot of these discussions.

14    I think that's the way the answer would probably go.

15                        CHAIRMAN      BREAUX:     Thank      you,     gentlemen.

16   We're going to have to move on because we have other

17   panels participating.                Obviously, we'll continue for

18   long periods, and your contribution has been very,

19   very helpful.          Thank you, both.

20                        I'd like to welcome down our next panel,

21   Panel Number Two which consists of Hilary Hoynes, who

22   is     a    Professor       of    Economics       at   the   University           of

23   California          where    she     focuses      on   welfare       and      low-

24   income policy, low-skill labor markets, and government

25   transfer programs.

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1                           Mr. Mark Moreau, who is Co-Director of the

2    Southeast Louisiana Legal Services and Director of the

3    Low Income Taxpayer Clinic.

4                           Mr.     David      Marzahl,        who    is       Executive

5    Director          of    the      Center       for   Economic       Progress            in

6    Chicago.              That     center     operates     the      Tax     Counseling

7    Project, which is the nation's largest free community-

8    based tax preparation program.

9                           We are delighted to have you.                         We have

10   allocated ten minutes for Ms. Hoynes and five minutes

11   for Mr. Moreau and five minutes for Mr. Marzahl.                                       So

12   try to reach those targets if you could.                              We'll start

13   with Ms. Hilary Hoynes.

14                          MS.    HOYNES:     Thank     you     very      much.          I'm

15   pleased          to    be     here.       I    have    to      say,     it's       very

16   difficult for me to present something sitting down.

17   Being a professor, I'm used to standing up in front of

18   the room, but I'll do my best to stay in my seat.

19                          So I would like to talk about the Earned

20   Income Tax Credit.                 And some of the things that I have

21   prepared on my slides are going to be touched on later

22   on today by various speakers.                       So some parts of this

23   presentation I will clearly go through a lot more

24   quickly than others.                    And I also want to just refer

25   the panel members to some additional information that

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1    I have in an appendix for providing some more data and

2    tables to supplement what I have presented.

3                       So    the    Earned       Income   Tax     Credit      is        a

4    refundable tax credit for low income families with

5    children.           There's      also    a    very    small     credit        for

6    childless filers.              I'll be talking a little bit more

7    about the eligibility.              But just to give you just kind

8    of a snapshot, in the 2003 tax year, about

9    20 million filers received the credit at a cost of

10   $34 billion and an average credit per family in 2003

11   of a little under $2,000.                And one of the themes that

12   I wanted in my comments is that the EITC has really

13   become an integral part of federal assistance for low

14   income families, that is someone who spends a lot of

15   their time not only looking at federal tax policy, but

16   it's very important to think about the integrated --

17   or     not       integrated      but    the     separate      transfer          or

18   entitlements and tax policy that affects low income

19   households.

20                      And that's a sort of critical thing to

21   think about in the context of understanding the Earned

22   Income Tax Credit.                So, with some background, the

23   Earned Income Tax Credit started in 1975.                       It remained

24   quite small until some substantial expansion starting

25   with the '86 Tax Reform Act, '90 and '93 expansions

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1    and then the 2001 expansion, which was not a general

2    expansion of the Earned Income Tax Credit but expanded

3    the     credit     for     married       filers    to    address        marriage

4    penalty issues.

5                       An    important        point       also   is       that     many

6    states have added Earned Income Tax Credits to their

7    state income tax programs.                  There are now 16 states

8    that offer -- at least as of 2003.                      And also one thing

9    I want to talk about just briefly at the end is the

10   U.S.       has    really     been    a    leader       for   the       OECD      and

11   European context in which many countries have started

12   like programs for filers in their countries.

13                      So why do we have the Earned Income Tax

14   Credit?          I think that the three main reasons are to

15   reduce the tax burden and increase incomes of low-

16   income families.              The original gain was to offset

17   payroll taxes, but we're certainly at the point now

18   where the benefits that most households are getting

19   far exceed the payroll taxes that they pay, although

20   that depends on the particular situation.

21                      It's transferring income to the working

22   poor as opposed to the transfer system of welfare

23   programs that transfer the largest benefits to the

24   non-working         poor,       which      is     a     really         important

25   distinction        between       these     programs        and    I    think       is

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1    really the main source of its very broad support and

2    it's very strong in encouraging work.                         And I'll speak

3    about the extensive research evidence that supports

4    and      quantifies        just     how    much       it    does,     in     fact,

5    encourage work.

6                       So eligibility -- most of my comments I'm

7    going to focus on eligibility and benefits for the

8    EITC for families with children.                            As I mentioned,

9    there's a small credit for childless workers.                              So you

10   have to have a qualifying child.                             There's complex

11   rules about establishing whether or not the child is a

12   qualifying         child     based        on       age,    relationship,         and

13   residency tests.            Most of the non-compliance with the

14   EITC surrounds the qualifying child rules which are

15   complex,         have    been     simplified         to    some   degree       over

16   time.

17                      You have to have earned income, and, of

18   course, there's a limit based on AGI.                        In terms of the

19   2004      tax    year,     if   I   was        a   single    filer,      head      of

20   household filer, with one child, at about $30,000 I

21   would become ineligible for the EITC.                        There's also an

22   additional          eligibility           that        depends       on       one's

23   investment income, which in 2004, could not be greater

24   than about $2,500.

25                      So, in terms of the size of the credit

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1    that the household faces, there's three regions of the

2    credit.          And what I'm going to be talking about, the

3    efficiency of the EITC, it really directly relates to

4    these three phases of the credit.                             In the phase-in

5    region,          as    a        household     earns    more,        the      credit

6    increases.            And this is the main source of the very

7    strong work incentive of the program.                               If you work

8    more, your EITC grows.

9                          In        the   flat    range    of     the     credit,            a

10   household receives the maximum credit in a relatively

11   small        range         of     income     or   earnings.           And      then,

12   eventually, like all benefits that are targeted, it

13   has to be phased out.                   And that is just an unavoidable

14   aspect of any program that's targeted in some way.                                   So

15   the EITC is phased out at a relatively, relative to

16   the transfer program, low rate.                       But, in terms of the

17   taxes that the households face -- and I'll have a city

18   scape diagram like that presented in the earlier part

19   -- it's actually raising the quite high marginal tax

20   rates to low to moderate income households.

21                         I mentioned the tax credit is refundable

22   which is important.                    It means that the household can

23   actually receive a payment, a check in the mail, if

24   their credit more than offsets the federal taxes that

25   they're owed.               Like our entire tax system, it's based

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1    on family earnings, which is an important way that

2    it's differentiated from some of the European EITCs.

3    And I already mentioned the changes in 2001.                      Prior to

4    2001, single and married filers faced exactly the same

5    schedule, which can be raised as an issue of fairness

6    or lack of fairness.

7                          Here are the parameters, tax parameters

8    for 2004 for single filers, by how many children the

9    family has.             And, in my appendix, I have the same

10   table for married filers.                So just on the bottom row,

11   you can see the maximum credit for people without

12   children         is     $390    compared     to,     for   two    or     more

13   children, over $4,000.              This graph shows you the three

14   regions of the credit, the phase in, the flat, and the

15   phase out region of the credit and how the credit

16   varies by family earnings.                  The blue line is if you

17   have one child.             The red line is if you have two or

18   more children.            It shows that there's a larger credit

19   that      covers       higher   earners      for   families      with    more

20   children.             And I should note that this difference

21   between one and two or more children actually was not

22   introduced until the 1993 expansion of the EITC.

23                         Who receives the Earned Income Tax Credit?

24    Well, this data which covers both -- some of the data

25   covers 2002 and some covers 2003 tax year, but the

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1    majority of benefits go to single, I shouldn't say

2    head       of    households        there.        Three-quarters             of     the

3    dollars go to single parents.                     And a disproportionate

4    share       go     to     families      with     two    or    more        children,

5    reflecting the larger benefit.                         And the majority of

6    benefits go to families with income under $20,000.

7                        Just for a reference point, the poverty

8    line for a family of three, say a single mother and

9    two children, in 2003 would be about $15,000.                                  So it

10   gives        you    some      perspective        of     who's       getting        the

11   credit.

12                       I'm     not    going    to    talk       very    much        about

13   this, but it is clear that there is a patchwork of tax

14   benefits         for      families      with     children,          and     it     was

15   already brought up in the last panel about possible

16   integration of these tax benefits, Earned Income Tax

17   Credit, the Child Tax Credit, exemptions, and so on.

18                       To     give     you    an    idea     about       the        EITC,

19   actually, it's only quite recently and it's very much

20   following the legislative expansions in the EITC that

21   the program is at the credit cost of increase.                                       So

22   this is, in real terms, the total cost of EITC.                                    You

23   can see that the growth is really primarily between

24   the      late      '80s    and    the     mid-'90s      as    the      credit        is

25   expanded.          Just as a point of comparison, and I know

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1    that it's not where the focus of the panel is, but

2    it's an important aspect about who is getting these

3    benefits and what it relates to, are the entitlements

4    of the welfare benefits for low income families with

5    children.

6                         The EITC now costs -- we now spend more

7    money on that than we do on traditional cash welfare

8    or the Temporary Assistance for Needy Families Program

9    and also more than the food stamp program.                                  And it

10   reaches          many    more    families.           So   about     20     million

11   families in the most recent year, although it pays

12   less       per     family       on    average    than       traditional         cash

13   welfare.           But it's just a comparison that I think is

14   important to make.

15                        I want to draw attention to this figure

16   which are the marginal tax rates up to $150,000 for a

17   single           filer   with        one   child,     and    the     blue       line

18   represents the federal taxes plus FICA, assuming that

19   burden is placed on the family.                      And the point I want

20   to make from this is, in the phase-out region of the

21   EITC around $25,000, the marginal tax rates are very

22   high.        And the blue line comes down around in the high

23   almost at 100,000 because you reached the cap for the

24   payroll tax for Social Security and just Medicare, the

25   three percent remains.                     So if you take that into

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1    account -- I think it's important to take into account

2    FICA for this population                   --      you see how high the

3    marginal tax rates are for that group.

4                         So I want to make sure that I talk about

5    efficiency.              I think that the main selling point for

6    the      Earned          Income    Tax    Credit,      in    terms      of      the

7    efficiency argument, is due to the fact that we know,

8    with a lot of research over the last ten years, that

9    the Earned Income Tax Credit does, in fact, lead to

10   substantial increases in employment for single parents

11   with children.                And I know that Professor Heckman

12   talked about this briefly when you were in Chicago.

13                        One study by Bruce Minor and Dan Rosenbaum

14   shows that 60 percent of the increase in employment,

15   that      substantial         increase        in   employment that we've

16   seen for single mothers between 1984 and 1996, can be

17   attributed to expansions in the EITC, and that is

18   quite remarkable.                For decades of social policy trying

19   to     address       the     problem     of    low   participation           rates

20   among            single     parents       with       children,       this         is

21   remarkable.           It also shows, as referred to in the last

22   panel, substantial reductions in poverty as well.

23                        I    have    some    calculations       that      you      can

24   refer to that just shows you in dollars and cents how,

25   in fact, the EITC leads to this result as some simple

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1    calculations which are more in the appendix that just

2    give you some ideas about how much income increases in

3    contemplating             full       and    part-time     work       for     single

4    parents with children.

5                        Some possibly important caveats that don't

6    appear to be very important in practice from what we

7    know       is     that    these       high     marginal      tax     rates       that

8    individuals face in the phase-out theoretically can

9    lead to lower earnings, lower wage rates, lower hours

10   for     individuals            who    are    in   that    phase-out         region,

11   which is a very broad region of the income spectrum

12   where a lot of workers, more than half of the EITC

13   recipients are in the phase-out region.

14                       The        simple       economics     of       the      problem

15   suggest           that        these        workers     would       be      possibly

16   incentivized             to    work     less.        We   do   not       have      any

17   research that substantiates this as being an important

18   fact.            This may be because workers don't have an

19   understanding of the exact shape of the Earned Income

20   Tax Credit.              We really don't fully know the whole

21   story       about    the       possible       efficiency       losses       in     the

22   phase-out region.

23                       We know, however, that secondary workers

24   and married couples do, in fact, work less because of

25   the Earned Income Tax Credit.                        I've done some work on

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1    that.            However,    in    the    scheme     of    things,         these

2    efficiency losses, by all of our estimates, are small

3    compared to the large efficiency gains of increasing

4    employment among low income -- single mothers with

5    children.

6                        I'm going to pass on talking about the

7    fairness issue.              That's already been talked about.

8    The simplicity issue's also been talked about.                           Let me

9    just conclude with the point that many other countries

10   --     and I have some data in the appendix

11   -- shows very much following our lead on this policy.

12    And, if you read the press and the research and the

13   debates and those legislative settings, they're always

14   citing the Earned Income Tax Credit as the model for

15   effective social policy in terms of being efficient

16   and redistributed.

17                     So, in conclusion, the EITC is an important

18   program.             It's     been       demonstrated          to     increase

19   employment and reduce poverty.                 Some comments that we

20   might        want    to     talk   about     later       are     complexity,

21   compliance, and fairness.                Thank you.

22                     CHAIRMAN BREAUX: Thank you, Ms. Hoynes, very

23   much for an excellent presentation.                      Mr. Mark Moreau,

24   we're delighted to have you with us.                      Pull that mic,

25   Mark, as close as you can.

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1                       MR. MOREAU: Yes.          I work with a local, low

2    income           taxpayer    clinic       that    is   funded    by    Congress

3    through the IRS, and we primarily see taxpayers that

4    are in disputes with the IRS.                     That is, they're being

5    audited or they've been denied some tax credit or

6    benefit that they feel they are entitled to.

7                       I'm going to talk mostly just about fairness

8    and simplification and stuff that we see from the

9    perspective          of     the   low-income        taxpayer.         In    2004,

10   Congress greatly simplified the Earned Income Credit.

11    And we believe that this will help with compliance in

12   that area and make it a lot easier for the taxpayer.

13   There's still a few problems remaining.                          I think they

14   pale       in       comparison       to     the    historical         problems.

15   Taxpayers who have to file married but separate, they

16   can't       get     the     Earned    Income      Credit     and    that      does

17   exclude a lot of people.                         You can get it if you

18   qualify for the head of household, but that's still a

19   very complex definition and causes a lot of taxpayers

20   problems            For the low-income taxpayer, the head of

21   household filing status is really irrelevant.

22                      By the way, the people we see in our clinic

23   are generally single parents.                     Probably

24   98 percent of our clients are single parents with one

25   or two kids making less than $15,000.                           Some of these

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1    rules change after you go above $15,000.                                The Earned

2    Income           and     AGI     definitions         in     community       property

3    states, which represent about 30 percent of America,

4    still cause taxpayers problems.                           I think, in reality,

5    most taxpayers ignore those rules because they're so

6    complicated and they're perceived as unfair.                                And I'll

7    get into that a little later.

8                          Joint and shared custody is becoming very

9    common           in    the     country       with    moms    and     dads     sharing

10   custody almost 50/50.                        That creates serious record

11   keeping problems for those folks in terms of proving

12   their        eligibility            for      the     Earned       Income      Credit.

13   Similarly, self-employment is growing among the poor,

14   and a lot of those folks have had a hard time showing

15   their       entitlement            to     Earned     Income       Credit      because

16   they're not used to keeping the records that you have

17   to keep when you run a small business.

18                         So those are some of the challenges that

19   people are facing now.                    I think the bottom line is, in

20   terms        of        fairness,        is    what       President     Reagan        and

21   President Clinton both said, which is that if you are

22   working full-time at a minimum wage job, you shouldn't

23   be living below poverty.                      So, for me, the question is

24   who's       still        below      poverty        and    who's    above      poverty

25   after the intervention of the Earned Income Credit.

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1    Of    course,      official       poverty    doesn't really measure

2    real poverty in this country any more.                         The National

3    Academy of Sciences say that, basically, the poverty

4    standard should be about 45 percent higher than it is.

5                     Now, the Earned Income Credit income limits

6    for      eligibility       seem    to     reflect      the     realty       that

7    poverty is a lot more than 100 percent.                        Some of the

8    upper levels approach 200 percent of poverty with the

9    Earned Income Credit, and I think that's good because

10   economic studies show that people who live below 200

11   percent of poverty suffer almost the same critical

12   hardships as people living below 100 percent.                           And by

13   that I mean losing your home, being evicted, going

14   without food, stuff like that, having your utilities

15   cut off.

16                    So who's left behind?            Well, people who are

17   in transition where their families are breaking up or

18   left behind.           Because if you're married but separated,

19   you're probably not going to be able to qualify for

20   the Earned Income Credit in the first year of your

21   separation.            That's     where     a    lot      of   parents        and

22   children are very vulnerable.                     Typically, it's the

23   mom, not always, and often she's a domestic violence

24   victim.          People would probably be surprised to know

25   how      many    low    income     people       are    domestic      violence

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1    victims.

2                       So this chart just shows you that separated

3    parents are way below official poverty, which is way

4    below real poverty.                   And a married couple with one

5    full-time minimum wage worker would be at 71 percent

6    of poverty.           A single mom with two kids would be at 86

7    percent of poverty.                  I'm not an economist, so unlike

8    Bob Greenstein, I didn't factor in the payroll taxes.

9     These           numbers     should    really      be    lower      than     what's

10   showing on my charts.

11                      My next chart shows a single parent with a

12   full-time minimum wage job, 40 hours a week, is just a

13   little above official poverty.                     Well, I didn't factor

14   Social Security tax in there, so if I factored it in,

15   that person would also go below poverty.                              Now, these

16   other two groups, the married parents with two kids

17   and the unwed parents, they're doing a little better,

18   but they're still below real poverty.

19                      This      chart     just      shows        how    people          in

20   community property states can either be denied the

21   Earned Income Credit in the first year or have it

22   substantially              reduced      because,        say,        typically            a

23   husband's income, which is often much greater, you

24   know the wife has to take half of his income into her

25   tax return.

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1                      Domestic     violence     is    a    leading     cause        of

2    female poverty in this country, and many of those

3    victims don't get the Earned Income Credit when they

4    really need it, when they're separated and they're

5    trying to establish economic independence and get back

6    into the work force.

7                      Now, until recently, about half the country

8    would be taxed on attorney's fees.                         And, if you're

9    involved in a lawsuit, you know attorney's fees are

10   taxable          as   income   to   the    client,      even    though        the

11   client never sees a penny of that.                         The country was

12   kind of split up.              Half the country, the courts said

13   well, that's not taxable income.                      The other half said

14   it was.           A couple of months ago the Supreme Court

15   resolved that conflict and said that attorney's fees

16   are taxable to the client in every state in this

17   country.

18                     Congress     fixed      the    problem     partially          by

19   saying it's not income.                But it didn't fix it for all

20   people.           And this chart shows a low-income taxpayer

21   how he gets a small settlement, say in some consumer

22   case, maybe with a creditor who is engaged in very

23   abusive          collection    tactics.          He   basically      ends       up

24   having his $3,000 recovery taxed at a 56 percent rate.

25    Now, one reason that's happening to him is because of

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1    the way the Earned Income Credit works because most

2    poor people can't itemize deductions.                           They have a

3    standard deduction.               If this was a wealthy person, he

4    would have been able to deduct those attorney's fees.

5     But even the wealthy person would have been shafted

6    in      part      because        there's      a     two     percent    cap       on

7    deductions.            Before you can even start deducting, it's

8    got to exceed two percent of your AGI.

9                      Also, a wealthy person might be hit by the

10   dreaded          AMT   if   he    had    a    bigger      recovery.        Well,

11   because you can't deduct against AMT, you just end up

12   getting totally shafted.                      And that's an area where

13   Congress -- they fixed it for civil rights cases, but

14   they basically didn't fix it for a whole slew of other

15   cases.           And they really ought to go back in and fix

16   that.

17                     Perceptions of unfairness.                  Earned Income

18   Credit is drained by the system, the tax return prep

19   fees, the refund anticipation loans, seizures of the

20   refunds          by    creditors,       and    in    some    states,     Earned

21   Income Credits are exempt from seizure.                          And I think

22   that's really good.               Federal law can sort of take over

23   that and just exempt it everywhere, but that hasn't

24   been done yet.

25                     And the major complaint we hear from our

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1    clients is that they're unfairly denied their Earned

2    Income Credit.                 And the current IRS procedures for

3    audits, they're really fair, but they don't work well

4    for low-income clients that are illiterate, basically.

5     And that's been established by the National Taxpayer

6    Advocate.

7                       At the end, I just have some suggestions on

8    Earned Income Credit.                 The ICAN tax return software is

9    a pretty amazing product if you haven't heard of it

10   before.           A legal aid society in California developed

11   this.            It's all written in fifth grade English, and

12   they've           had    tremendous        success     in    having      people

13   prepare their tax returns themselves.                        I think my time

14   is out.

15                      CHAIRMAN BREAUX: Thank you very much, Mr.

16   Moreau.            We appreciate your being with us.                       Next,

17   we'll       hear        from   Mr.    David    Marzahl.        David,      we're

18   delighted to have you here as well.

19                      MR. MARZAHL: Thank you very much.                     Let me

20   just get technology working here.                        Similar to Mark,

21   I'm       going         to     talk   on      the    perspective        of       an

22   organization that does day-to-day work with low-income

23   taxpayers.              The Center for Economic Progress is in

24   Chicago.           We actually are a state-wide organization,

25   and we provide a wide range of tax and financial

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1    services to the working poor.                 We are full partners in

2    the VITA Program, the Volunteer Income Tax Assistance

3    Program, which the IRS helps administer.

4                      And, as you see here, we've prepared over a

5    hundred thousand federal income tax returns in the

6    past ten years.             We also operate a low-income taxpayer

7    clinic and see about 500 low-income individuals a year

8    including many immigrants and many first time filers.

9     So we have a unique perspective on some of the issues

10   that somewhat disenfranchised taxpayers face when they

11   encounter the tax code.

12                     And we've increasingly moved into a blended

13   approach where we bring financial education, financial

14   literacy into the picture.                 We have opened 2,400 bank

15   accounts in the past several years by working with

16   bank and credit union partners using the tax refund as

17   an opening deposit.                 And we actually see this as a

18   real        window        for     wealth   building        in     low-income

19   communities.

20                     We   target      low-income     households          for      our

21   efforts, and we also are leading a national effort

22   through          the   National     Community     Tax Coalition being

23   together          about     500    organizations       from      around        the

24   country doing similar work.                  In fact, there's a very

25   robust network of organizations such as Mr. Moreau's

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1    and ours that, in many ways, are providing a real

2    service not only to taxpayers but to the Internal

3    Revenue Service.

4                     In our belief, a progressive tax code is

5    really desirable for equity.                  It may beget complexity,

6    but we feel that that is not necessarily a bad thing.

7     As      previously         stated    by     Mr.    Greenstein,        there's

8    widening inequality of income and wealth.                            And some

9    studies have shown reduced social mobility.                             And we

10   feel       the    tax    code     does       play   a      unique    role       in

11   facilitating families' access to the American dream.

12                    Horizontal equity, we feel, is challenged by

13   disparate tax treatment of wage and investment income.

14    In our work, we primarily see wage earners.                            We see

15   very few people who have investment income.                           And, as

16   there's been a shift in recent years, there's the risk

17   that wage earners will assume a higher tax burden as

18   other sources of income are taxed at lower rates.

19                    Now,    you've      heard    quite     a   bit     about     the

20   Earned Income Tax Credit.                I do want to add that there

21   are now two city Earned Income Tax Credits as well as

22   state Earned Income Tax Credits.                    I think local policy

23   innovation has it that they really see the federal

24   EITC       as    such   a    successful       program       that    they      are

25   building similar efforts on top of that.

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1                     In addition to the EITC being a refundable

2    credit, the Child Tax Credit at least is partially

3    refundable and greatly benefits many of the people

4    that we see.           And then there are a whole slew of non-

5    refundable         credits,      the    Child    and      Dependent       Care

6    Credit, Education Credits which you heard about in

7    Chicago,         the   Saver's    Credit.        These, unfortunately

8    while targeting people and providing a benefit, they

9    do add some complexity and there is some risks with

10   them.

11                    Generally, we find that the non-refundable

12   credits are a limited utility to low-income earners,

13   and non-refundable credits are increasing relevance

14   for those earning above about $25,000 a year.                        I'm not

15   keeping up with my slides here.

16                    Just to give you a glimpse of some of the

17   people we see, to highlight a few things that follow

18   previous         testimony,    the     average    refund through our

19   work      that    we're    providing      people     is    $1,500.          The

20   median refund is quite a bit lower; it's $791.                            But,

21   with families, it is much larger.                    It is $2,508, and

22   the median is $2,489.              That's a pretty amazing number

23   when you look at the fact that the average income for

24   households we serve is $12,000 a year.                    In many cases,

25   they are getting a tax refund primarily comprised of

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1    the Earned Income Tax Credit which is equivalent to

2    one to one and a half months of their actual payroll

3    earnings.

4                      Sixty percent of the people we see claim the

5    Earned Income Tax Credit.                    Twenty-three percent, the

6    Child Tax Credit.              Again, those are the two refundable

7    credits.          And it drops down a great deal when you get

8    to     the       non-refundable         credits.        Only     five       percent

9    claiming          the     Saver's       Credit,    and       four     and      three

10   percent,          respectively,          Education       Credits         and       the

11   Dependent Childcare Credit.                   So the evidence from our

12   perspective          is     that    refundable         tax    credits       have         a

13   substantial          impact        on   low-income       taxpayers.              Non-

14   refundable tax credits much less so, and taxpayers

15   with         dependants          under      the        tax     code         receive

16   significantly             larger     tax   benefits          from    the     child-

17   related tax credits.                And, again, you see a chart here

18   that gives you a graphic illustration.

19                     Quickly a fact, you've heard this earlier.

20   I think Fred Goldberg touched on this; Nina Olson as

21   well.            Seventy-two        percent       of    Earned       Income        Tax

22   Credit, in other words low-income filers, use a paid

23   preparer.          Only 60 percent of all taxpayers do.                            The

24   ritual of filing a tax return, in our experience, is

25   really a function of democracy.                          We see some very

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1    interesting patterns played out on a day-to-day basis

2    with the people we serve.                 There really is a high

3    degree of civic pride associated with filing a tax

4    return, and we see this especially among immigrants.

5    And filers with multi-year returns are often quite

6    eager to get squared away with the IRS even if they

7    owe penalties.

8                     Regarding       taxpayer           awareness             and

9    understanding of the tax code, a particular fact I

10   think that's worth mentioning that the actual eligible

11   population for the Earned Income Tax Credit varies by

12   up to 30 percent a year.                 This really reflects, I

13   think, some churning in the labor market, the fact

14   that people are moving up and down.                     In the last few

15   years actually, at least statewide in Illinois, the

16   number of people claiming EITC and the value of those

17   refunds has dramatically increased, as there was a

18   downturn in the economy.                So it really provided a

19   floor of base wages for lower-income workers.

20                    There's a very limited understanding of how

21   withholding impacts tax refunds, and we see through

22   our tax counseling project -- and this was talked

23   about earlier by Professor Hoynes -- there really is

24   both a lack of understanding in the connection between

25   the size of the refund, a household's annual income,

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1    and      the     household     composition       and      really     a    very

2    limited grasp of the different tax credits with the

3    exception         of   EITC,    which       everybody      wants     because

4    word's out on the street that this is a valuable

5    credit.          And they have limited, if any, understanding

6    of the interplay of the different credits and the

7    complexity of the tax code.                  Unless you really know

8    quite       a    bit   about   how    the    credits      work     together,

9    you're not going to fully get it.

10                    There has been a major policy change that

11   will go into effect for this filing year, for tax year

12   2005, Uniform Definition of Qualifying Child, and that

13   should definitely help.

14                    I want to conclude with a couple of remarks.

15    We really have seen something very interesting in our

16   work and that is the leveraging of the tax code for

17   asset building.           I think it's a fact, if you look at

18   the evidence that historically, since the early part

19   of the century, that majority of tax benefits for

20   saving and asset building have flowed to moderate and

21   upper-income households.                But the EITC has begun to

22   change some of that.              The lump sum nature of the tax

23   refund that people receive and the large Earned Income

24   Tax Credit it actually can promote savings and asset

25   building.

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1                         We did a study a number of years ago

2    with      Syracuse   University       that    indicated that many,

3    almost half of all EITC recipients wanted to use some

4    or all of their refund for social mobility purposes.

5    And, ironically, and maybe not surprisingly, many of

6    those same people did not have a bank account, so they

7    actually could not do anything with their refund other

8    than get a paper check from the Treasury.                        So our

9    solution has been to open bank accounts with assets.

10   We have been greatly increasing direct deposit of tax

11   refunds at all of our sites.              As I said earlier, we do

12   25,000 tax returns a year.             We have seen the number of

13   people direct depositing their refund go from 30 to 40

14   to 50 percent in the last three years alone.                     And we

15   feel, from a policy perspective. that a refundable

16   Saver's Credit would actually intensify savings and

17   might further connect EITC and the tax code to people

18   entering mainstream financial services.

19                    You have here a glimpse profile of a low-

20   income taxpayer we serve, and she's not your average

21   taxpayer.        I grant you that.        But here's an example of

22   someone, Renita Keyes-Jackson, and she has agreed to

23   have us use her name.             She has been able to really,

24   over time, using our services, use her EITC and her

25   refund to significantly move up the economic ladder.

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1    She's actually been able to purchase a home.                               She's

2    actually been able to purchase a car, and she is

3    someone who really exemplifies the value of the EITC

4    to lower-income earners to enter into the financial

5    mainstream.

6                     So,    finally,      a     few    conclusions       from     our

7    perspective with the programs we run, we feel that

8    streamlining and simplifying the tax code is highly

9    desirable, the same for the Earned Income Tax Credit.

10    That        some      complexity      of        the   tax    code    is      not

11   inherently          bad      if      principles         and    equity         are

12   maintained.            And that we feel also complexity is not

13   necessarily         a   function       of    a    progressive     tax      code.

14   That taxpayers generally desire to comply with tax

15   laws and to meet their tax obligations, despite the

16   fact that they often don't understand how the tax code

17   actually operates.                And that, finally, the tax code

18   assumes a unique role in our society of facilitating

19   saving and asset building.                        And I underscore this

20   involves all cohorts of taxpayers, and we feel is

21   uniquely positioned to unveil consumers to mainstream

22   financial services.               Thank you.

23                    CHAIRMAN BREAUX: I thank you all very, very

24   much for this real good discussion.                        I'm very pleased

25   and proud to point out that one of the fathers -- and

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1    I guess success has been with the fathers -- is one of

2    the fathers of the Earned Income Tax Credit and my

3    predecessor in the Senate, Russell Long.                         I'm sure

4    he'd be very proud of the results.

5                      This is a very big program, over $35 billion

6    annually.         I was under the impression that, because of

7    the complexity of it, that there would be a lot of

8    people who would not be able to participate in it

9    because          they   didn't     know     about     it,   it    was      too

10   complicated to figure out.                  And I guess I'm hearing

11   from you folks that that's not necessarily the case.

12   They are using it, those who are eligible.                            I'm a

13   little surprised that the figure was 72 percent of

14   those who fill out their Earned Income Tax Credit use

15   paid preparers to do so.                 We all know that there are

16   good paid preparers who do a wonderful job, and there

17   are probably some sham artists that sit on the street

18   corner and try to get people to sign over their income

19   tax refund in order to let me prepare it for you.

20                     If there was one thing that you all could

21   recommend to the tax panel for us to consider with

22   regard to the Earned Income Tax Credit, could you give

23   me an idea of what that might be, in order to change

24   it?      Hilary, if you'd start?

25                     MS. HOYNES: Let me just first say that the

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1    participation rate -- it's hard to measure it first of

2    all because, in order to calculate what fraction of

3    people who are eligible actually get the EITC, you

4    need       to     use    sort    of     census     data    to   calculate

5    eligibility, which is hard to -- the qualifying child

6    is difficult and tax data to count the numbers.

7                     But our best estimate suggests it's about 85

8    percent, possibly even higher for those with kids.                           So

9    the participation rate is incredibly high, higher than

10   it is in pretty much any other low-income program

11   inside or outside the tax system.                      So everything we

12   know suggests participation is high, which I think

13   surprised          people     given     that,      especially      in      the

14   beginning, it required getting people into the tax

15   system.          That was considered to be the big leap.                   You

16   know they didn't have to file because they didn't have

17   a positive tax liability, and we needed to get them

18   into the tax system.                But I think that that's just

19   sort of word of mouth and so on.

20                    Just one other comment and then I'll address

21   your direct question about changes.                    In terms of the -

22   - this is something that maybe the two of you could

23   comment on that I've often wondered about but don't

24   know that anybody's looked at                    -- and that is the

25   startling fact about the 72 percent of EITC recipients

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1    using a paid preparer.             I've often wondered if that's

2    not -- that's one of the mechanisms by which people

3    find out about it.

4                     So, in fact, the reason why we have such

5    high tax preparer rates is precisely because that's

6    one mode by which people find out about the EITC in

7    the first place and how the information is then sort

8    of disseminated through the population.                    And I don't

9    know that.         But I guess, overall, the rates are quite

10   high among low-income taxpayers, period, regardless of

11   whether they're EITC recipients or not.

12                    In terms of changes to the Earned Income Tax

13   Credit, I think that the efficiency concerns, in terms

14   of people talking about changing the phase-out rate

15   and so on, I think are probably not so important given

16   what we know about -- I mentioned those very high

17   marginal tax rates for people with around $20,000 to

18   $25,000.         However, in the absence of any evidence that

19   that actually discourages people on the margin from

20   working there, I don't think that there's any reason

21   to change those phase-outs.

22                    In fact, one could even argue, possibly,

23   that       you    could    make     the    phase-out      quicker         and

24   possibly,        in   a   revenue-neutral        way,    transfer       more

25   resources to the lower end of the EITC spectrum.                          But

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1    this      is      an   area     where     we    really    just    don't       have

2    complete information about how people adjust to these

3    margins in the phase-out region of the credit.

4                       From equity, I think that there are sort of

5    fairness issues that one could bring up around the

6    differences between married and single filers, that

7    the     2001       law     addressed      to    some    degree,     under       the

8    umbrella of reducing the marriage penalties.                              But it

9    was really small compared to the overall changes in

10   the law around marriage penalties.

11                      So, specifically, what was done?                  There was

12   an expansion, no change in the rates, but simply an

13   expansion of the range of the credit where a married

14   couple could get the maximum credit, a shifting out of

15   the distribution, $3,000 when it's fully phased in.

16   So the phase-out rate for married couples would start

17   $3,000 further in the earnings distribution than the

18   single           filers.        I   don't      think   there's      a    lot      of

19   evidence that, from efficiency standpoint, that is,

20   that this is actually having an effect on people's

21   marriage decisions, I think the evidence is weak on

22   that.        So I don't think it's an efficiency error.

23                      CHAIRMAN BREAUX: What I'm looking for, what

24   is your recommendation --

25                      MS. HOYNES: But it's a fairness argument

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1    that one could expand further the credit for married

2    couples          in    order     to    create     more     fairness        between

3    married and single filers.

4                       CHAIRMAN         BREAUX:     Mark,      do    you      have          a

5    recommendation from your perspective?

6                       MR.       MOREAU:     I     don't      have     one      single

7    recommendation.                 I     think     that     the     reforms        that

8    Congress recently passed was the big picture reform,

9    and it's great that they did it.                       I think that the two

10   biggest problems facing the taxpayers are the head of

11   household problem that we talked about earlier and

12   also the residency issue.                      That causes a high error

13   rate,        and      the     taxpayers        struggle     with     trying         to

14   document that the child resides with them.                                  That's

15   actually how I first got involved into this tax clinic

16   thing.           I just took on a case myself for a maid who

17   was making minimum wage, who was facing a $9,000 tax

18   deficiency from the IRS, which was equal to her total

19   income.           She was kind of freaked out.                     But she had

20   done       everything          the     right    way,      and    most      of     our

21   taxpayers aren't literate enough to do that because 40

22   percent of them are below literacy level one.                               Almost

23   70 percent are below literacy level two.

24                      But this lady had actually done everything

25   the     right         way,    and     I've    hardly     ever    seen      another

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1    client who's been able to do that in the last five

2    years.           She'd submitted everything to the IRS, and

3    she'd been rejected three times.                  And they just have a

4    hard       time     dealing     with     the     correspondence        audit

5    because they're not document literate.                      They're not

6    good at dealing with paper.                    They're clueless as to

7    what they have to show the IRS to establish their

8    eligibility.           Now, the IRS has made major reforms

9    there because they now have charts that are written in

10   plain English, in a user-friendly format that's easier

11   for the clients to understand.                   But my experience is

12   the clients still struggle with that.                    And I know Nina

13   Olson, National Taxpayer Advocate, has emphatically

14   recommended to Congress that the correspondence audit

15   procedure has to be customized for this low-income

16   population.           There needs to be more oral contact.

17   These        people    are      better     at     dealing     with       oral

18   communications.            We've had great success in reversing

19   denials by the IRS.

20                     By the way, I want to say the IRS is one of

21   the most remarkable government agencies I've ever met

22   in my career as a lawyer.                What they've done over the

23   last      five     years   to    improve       their   services     to     the

24   American public is phenomenal.                  And somebody ought to

25   write a book about it.                 It's very, very impressive.

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1    And their procedures are very fair, but sometimes it's

2    hard for our population to respond to those legitimate

3    inquiries for documentation.

4                       CHAIRMAN   BREAUX:     Congressman          Frenzel        may

5    take up that job.             Mr. Marzahl, I'm looking for what

6    recommendation can you give us.

7                       MR. MARZAHL: Very quickly, I'll jump right

8    in that participation issue that you raised, Senator

9    Breaux.           I think one of the things we've seen -- and

10   you heard Mayor Daley testify or open the hearing in

11   Chicago -- there's been very aggressive outreach by

12   mayors, by states.            They understand the fact that this

13   is a federal tax credit that benefits their taxpayers.

14   And,       in      Chicago,   within      a    year       of   Mayor      Daley

15   launching his outreach initiative, Chicago outpaced

16   all other top 100 major American cities in uptake of

17   the EITC.           So there's been a lot of activity in the

18   area.            There's still a sliver of people who aren't

19   getting the EITC who should.

20                      I think, when you're getting at a policy

21   recommendation, I would put both a policy and practice

22   recommendation on the table.                   I think a very strong

23   argument could be made, based on your opening remarks,

24   that we should look seriously at combining the various

25   child-related          tax    credits,        the   Earned      Income        Tax

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1    Credit, the Child Tax Credit, and possibly the Child

2    and      Dependant        Care     Credit.         That       does        add       to

3    complexity with all the different schedules, all the

4    different            forms,     all    the      different           evidentiary

5    information            that's    required.         It       would        be     very

6    complicated to do, but it would simplify the tax code

7    and make it much more transparent for taxpayers.

8                     I     think     there     also        is     a        much     more

9    significant marriage penalty that is assumed in the

10   Earned Income Tax Credit.                    We actually may be not

11   encouraging marriage through the EITC because there's

12   a disincentive for people to marry of similar income.

13    Let's say both are making $15,000, suddenly they're

14   at $30,000, and they lose most of the Earned Income

15   Tax Credit.            And I think some way to look at that to

16   incentivize marriage within the EITC would make sense.

17                    And    last,     following       up    on        Mr.    Moreau's

18   comments on the practice side, I think the IRS is to

19   be     commended,         but    I'm     very    worried          about       their

20   consistent requests for resources from Congress and

21   they're not getting sufficient resources.                                And Nina

22   Olson has said very bluntly in a report to Congress

23   that       their      support    and     service       will       go    downhill.

24   We're seeing walk-in support going down, more reliance

25   on VITA, lower-income tax clinics.                       And if they are,

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1    indeed, going to play the role they need to, they need

2    to have the necessary resources.

3                          CHAIRMAN BREAUX:            Thank you.      If you could

4    follow           up    and    give     the    panel      a     concept     on     the

5    consolidation of all the children's tax credits and

6    how      they         could    be    blended       together,      it     would      be

7    helpful.          Liz?

8                          MS. SONDERS: Thank you, all.                 I, too, was

9    surprised at the participation rate.                           It's a testament

10   to the grass roots by organizations like yourselves as

11   well as what some of the local politicians are doing.

12                         But I want to ask a more specific question

13   on     mobility.              And,    Dave,       you    cited    the    Syracuse

14   University study that showed the 49 percent of EITC

15   recipients wanted to use some or all of their credit

16   for upward mobility, and you gave a great, specific

17   example.

18                         Any   sense     of   the     actual      efforts     from         a

19   mobility              perspective?           If     we   look     at     all      the

20   recipients of the EITC, is there a greater propensity

21   for those folks to actually move up from a mobility

22   perspective?                Is this something that truly has been

23   incentivizing work and the effort to jump above 100

24   percent or 200 percent of poverty line?

25                         MR. MARZAHL: I think that gets back to the

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1    earlier testimony by Mr. Beach.                       The same thing that

2    the federal government lacks, we lack at the community

3    level, and that's the ability to do some longitudinal

4    tracking.          So we have some wonderful case studies,

5    some wonderful stories.                We have very little evidence

6    from year to year, really, of the impact.

7                      What we do have is a study that we did as a

8    followup to the Syracuse University one with Shore

9    Bank and with the Center for Social Development at

10   Washington University that looked at people who opened

11   a    bank        account    with    their       tax    refund     and      their

12   attitude         towards     mainstream         financial     services         and

13   whether they kept that account open.                          And they had

14   both       a     placebo.       They      had    a    group     that     didn't

15   participate, and they had a group that did.                                  They

16   found that people who opened the account who had a

17   large refund tended to have a much greater trust and

18   understanding of mainstream financial services.                              They

19   wanted to keep the account open, and we see that as a

20   positive.

21                     But I think there's a lot more longitudinal

22   research          that's     needed       to    look    at    cohorts          and

23   taxpayers over time and how the EITC actually benefits

24   them.

25                     MS.   HOYNES:       I    totally      agree       with       the

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1    comments you just made.                    We really don't know very

2    much about what happens to recipients over time.                                We

3    do, using the existing longitudinal tax data, know

4    about people moving in and out of the credit.                           That's

5    mostly because they're moving in and out of the labor

6    market, not so much because they're earning themselves

7    out of the EITC.             I think everything that we know more

8    broadly about the low income, low wage labor market

9    and EITC does not equal low wage, but many, many, many

10   -- a large fraction of the recipients are, in fact,

11   low wage, as that wage progression is minimal.

12                     We know from a lot of work on prior welfare

13   recipients,           and    this     is     an    important    thing,        the

14   mobility          issue      you     bring    up.          Broadly,     it      is

15   documented about the EITC and helping transition from

16   welfare into the labor market.                      However, conditional

17   on being in the labor market, how does the EITC help

18   people sort of permanently move beyond poverty?                                     I

19   think that's something we really don't know very much

20   about.           I think our best guess is that that's got to

21   happen through either increasing the number of earners

22   in    the        household    or     increasing individual's wages,

23   which,           at   low    wage     levels,       just     tacitly      labor

24   economists don't measure very large gains and means of

25   current times in wage rates among the less skilled

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1    workers.

2                     MR. MOREAU: I agree.

3                     CHAIRMAN     BREAUX:     Hold    the     mic   a    little

4    closer.

5                     MR. MOREAU: This is a potential bridge to

6    the American dream for a lot of poor people, but I

7    don't think a lot of them take advantage of it.                          They

8    have such pressing needs.             But the choice is there for

9    them to use that lump sum to buy a car, which should

10   help them.           In most parts of the country, you can't

11   get a job if you don't have a car.                 And, of course, in

12   other       places    like    New   Orleans       where    there's       good

13   public transit, maybe if you get a car, you can get a

14   job in the suburbs where the jobs usually pay a little

15   more.

16                    And we do see some clients who are aware of

17   those issues and how asset accumulation would help

18   them escape poverty.             Similarly, occasionally, we see

19   clients use the money for down payment on a house.

20   And we all know that being a homeowner is one of the

21   big bridges out of poverty and to the middle class.

22                    Now, I think some of our welfare laws do

23   discourage         people    from   saving       their    Earned     Income

24   Credit.          If you don't spend it within a month or two,

25   you      may      become     ineligible     for     food    stamps         and

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1    Medicaid.           Some of the people who get the EITC also

2    get some other welfare.                      Similarly, in some states,

3    creditors           can     seize        that       Earned    Income       Credit

4    immediately, and the client doesn't get any benefit

5    from it other than some of his debts have been paid

6    off.

7                       So    you   can       tweak      the   laws    to    probably

8    encourage savings, but the educational battle is very

9    tough because community agencies are competing against

10   fast      tax      preparers,        you     know    these    commercial         tax

11   return preparers and the marketing they do.                             It would

12   be nice if people got a little more financial literacy

13   training.

14                      CHAIRMAN BREAUX: Congressman Frenzel?

15                      CONGRESSMAN FRENZEL: I pass.

16                      MR. LAZEAR: Let me ask a question for Jim

17   Poterba who is on this panel but isn't here today.

18   Jim submitted a question to you, Hilary, that you

19   touched on in your presentation.                      But let me just make

20   sure      that      you    get     an    opportunity         to   speak     to     it

21   directly.

22                      And    that      is       that     your    work      suggests

23   disincentive             effects        of   high     marginal       tax     rates

24   associated with the phase-out range on EITC are quite

25   small.           Would you be comfortable, then, with narrowing

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1    the EITC phase-out range so that the upper income for

2    EITC was reduced and thereby altering the marginal tax

3    rates associated with this range?

4                       MS.       HOYNES:     So     the   point     I      think       that

5    everything              we      know     suggests       that      I      would         be

6    comfortable with that.                    I think this is still an open

7    question.              It fundamentally is something, as you well

8    know, it's just very hard to measure.                             We know a lot

9    about the sensitivity of workers and movements in and

10   out of the labor market.                    Everything that we know that

11   labor        economists           have     analyzed      suggest        that       that

12   margin of entry and exit is the most sensitive margin

13   that workers have in practice that we see.

14                      There seems to be less evidence across the

15   board,           not    just      with    the    EITC,     that       changes        the

16   marginal tax rates for existing workers create large

17   changes in terms of better specific continuous choice

18   of intensity of work, how many hours they work.                                    Now,

19   ultimately, I think it's a much harder question to

20   answer.           It's more demanding of our models and of our

21   data.        But everything that we know suggests that that

22   elasticity is simply smaller.

23                      So if we're thinking of that in terms of

24   feeding back into optimal EITC design, I think, yes.

25   I think that at this point I would be willing to trade

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1    off moving in the EITC expansion range, again if it's

2    a revenue neutral change, and feeding back more of

3    that towards greater returns on the entry margin.                              I

4    think with a small asterisk on that we have seen now

5    three substantial expansions in the EITC with marginal

6    tax rates now down to minus 40 percent subsidy rate.

7                      I think we're starting to get to the point

8    where, now, the new kind of, who would these new

9    marginal entrants be?                  Well, we're moving sort of

10   through the distribution. Whether that increase that

11   you would trade off against the reduced -- quicker

12   phase-out would create as much gain as we've seen so

13   far?             I think my guess would be -- a guess is what

14   it is -- is that it wouldn't be as large.

15                     CHAIRMAN BREAUX: Beth?

16                     MS. GARRETT: Yes, I have a quick question

17   that actually changes the topic a bit, and it plays on

18   something David said at the very end, which was the

19   refundable Saver's Credit.                   I'm very interested in

20   that as a possible reform for equity reasons as we

21   think about savings incentives.                     We need to think

22   about refundability for our low-income Americans.                          It

23   strikes me that that's more likely to encourage new

24   savings as opposed to shifting savings.                       It answers

25   Ed's      question     about     how    we   help    people   cope     with

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1    future difficulties.

2                      And so what I wanted to ask you was: What

3    are the kinds of things we've got to be on the lookout

4    for     if       this    panel       were     to     recommend        a     refundable

5    savings credit?                  What are the possible pitfalls?                               I

6    heard in one answer one might be it would render

7    people ineligible for food stamps and other welfare if

8    we start encouraging saving.                          Certainly, that would

9    have       to     be     taken        into     account.           What          are      the

10   interactions between a savings credit and an EITC?

11   What should we think about with respect to design?

12                     And this may be so out of the blue that

13   maybe it would be helpful for you guys just to send

14   this to us in comments, but it would be something I

15   would be very interested in.

16                     MR.        MARZAHL:        Well,     I   know,           practically

17   speaking, I think this is, again, that interaction

18   between the tax code and other aspects of government

19   entitlement             benefit         programs.               HHS        can        issue

20   directives which, then, states themselves can further

21   put the regulations in place to exempt certain types

22   of     savings          or     asset     accumulation       funds,            rules        of

23   eligibility for other programs.                        And I think there is

24   a risk because, as you have that gradual phase out

25   with the EITC, you have a cliff sometimes where people

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1    will      have        a    certain       dollar       amount.    They      may     lose

2    entire eligibility for some other programs.                                 And so I

3    think that does needs to be looked at.                              The last thing

4    we want to do is establish a Saver's Credit where

5    people can put modest amounts towards future savings

6    and     retirement,             potentially,          but    then    lose     out      on

7    income streams that they need because they're at very

8    low      wages.            So     I    think    that    interaction         is     very

9    important.

10                     I       think       there's    a    very    interesting          tool

11   that's in the President's budget for enactment in 2007

12   that I understand the IRS is quite reluctant to enact

13   and that would be allowing the bifurcation of tax

14   refunds.          So that, on that 1040 form, where it says,

15   where do you want to direct deposit your refund that

16   you could then say, okay, if you have an account, you

17   could put a certain amount into a regular checking

18   account and then you could put a certain dollar amount

19   into a savings account, and maybe a third amount into

20   an IRA or Saver's Credit.

21                     I       think       these    are    all    tools    which      could

22   really help at the front end to incentivize it for

23   people.           But I'd be glad to look at it.                              I know

24   there's some good research that's been done on the

25   Saver's          Credit.              I've     been    made     aware     recently,

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1    ironically,               that    H&R     Block,      which   has      been       very

2    aggressively pushing the Saver's Credit and actually

3    has a fairly high take up rate because they're able

4    to,     as       a    full      service       financial   services         company,

5    offer a credit as a in the mix of products, that they

6    are conducting a project right now in one of their

7    markets around the Saver's Credit where they may be

8    providing an incentive for people to take advantage of

9    it, which would be equivalent to having a match from

10   the federal government.                       So I think I could talk to

11   them, or you certainly could ask them to speak about

12   that.

13                        CHAIRMAN BREAUX: Thank you very much.                                I

14   think this whole concept of savings is something we're

15   going        to      explore      a     lot    because    I   just     personally

16   believe that we have so many different type of savings

17   accounts, and it becomes confusing to a large number

18   of Americans, whether it be the KEOGH, IRA, Roth IRA,

19   does it have a credit cap, or the home ownership

20   savings,             or   for    healthcare        savings,    or      retirement

21   savings or whatever.                    We have them all categorized and

22   just keep plugging it in basically because that's how

23   Congress dealt with it.

24                        We started off where we want to encourage

25   home savings, we want to encourage education savings,

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1    we want to encourage health savings.                         We've got all

2    these different pigeon holes that you have to plug it

3    in.       A lot of people, I particularly think the lower

4    income, just say, look it's so confusing.                             I'm not

5    sure where to put it.                 So maybe a consolidation of a

6    savings account which would be for good and noble

7    purposes         would     be   something       we    need    to   consider.

8    Thank you, panel, very, very much.                          We're going to

9    excuse this panel, thank them for traveling and being

10   with us.          I know many of you have come from a long

11   distance.

12                    And we'd like to, with that, welcome up our

13   third panel, our final panel, which consists of Mr.

14   Gene Steuerle.              He is a Senior Fellow at the Urban

15   Institute,        where       he     serves    as    Co-Director       of     the

16   Urban-Brookings Tax Policy Center.                     Also, a columnist

17   for Tax Notes, which I think has already written our

18   plan.

19                    And   also     welcome       Mr.    Mark    Pauly,    who      is

20   Professor and Vice Dean and Chairman of the Health

21   Care Systems Department of the Wharton School in the

22   University of Pennsylvania, a noted author, and we're

23   delighted to have him with us.

24                    Mr. James Alm, who is Professor and Chair of

25   the Department of Economics in the Andrew Young School

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1    of     Policy         Studies       at    Georgia    State      University          and

2    currently editor of the Public Finance Review.

3             Gentlemen, we are delighted to have you with us.

4     We have, in no particular order, but, Gene, you've

5    got      the     laptop        up   there.         We'll    start       with      you.

6    Welcome.

7                     MR. STEUERLE: Thank you, Mr. Chairman and

8    members          of    the      panel.         I'd    especially           like       to

9    compliment            you     on    the    great    job    you've      undertaken

10   here.        I've been involved in quite a number of reform

11   processes including serving as the original organizer

12   and     coordinator            of    the    Treasury's         '84   to    '86      Tax

13   Reform effort.                And I know the magnitude of the task

14   that you have before you.                     And, in fact, a lot of my

15   testimony is related just to that.

16                    I     believe       that    one     cannot      undertake          tax

17   reform without doing bottom up planning, not just top

18   down planning, but bottom up planning, and address all

19   of the many programs that are in the tax system.                                  And,

20   in many cases, even if one cannot address all of them

21   indirectly, one does get to them.                          Such as, when you

22   debate whether to have a consumption tax or not, you

23   have to address whether you're going to have a side

24   retirement incentive or not.                        You have to address if

25   you're going to have income accounting for low-income

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1    taxpayers and Earned Income Credit.

2                          So many of these activities interact.                                My

3    testimony, the outline is that the tax system affects

4    almost           every         area     of    a    family's       life.       Many       tax

5    subsidies are complex, unfair, nontransparent, and an

6    issue that's coming up more and more even in the

7    international arena is corrupting.                                 By corrupting, I

8    don't        mean          that's        where           they     encourage       illegal

9    activities.                    But they're corrupting in a sense of

10   encouraging us not to really be honest, transparent,

11   and put forth the best policies.

12                         A    major        concern      of     mine     which      gets       to

13   process -- and I hope that you will address on your

14   report           --       is     that    the       IRS     does    not    monitor        the

15   effectiveness of most of the subsidies.                                        So, even

16   independently, whether you recommend changing them, we

17   need to have a better system of monitoring them.

18                         As       you    know,       much    spending       is   hidden       in

19   taxation.                 Less well-known is that much taxation is

20   hidden in spending which largely affects tax rates.

21   As I just mentioned at the beginning, tax reform can't

22   avoid addressing these policies, and true tax reform

23   identifies who is going to pay.                                    So if I can go

24   quickly through these.                        I've outlined in just a number

25   of areas just the pervasiveness of tax subsidies from

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1    children-related subsidies, some of which you heard

2    about in the previous panel, to housing subsidies, to

3    charitable          incentives.           Subsidies         for    states        and

4    localities, healthcare, which my partner here next to

5    me      is       going    to    perhaps      speak     on,        Mark     Pauly,

6    retirement           savings       incentives,         higher         education

7    incentives,          business      subsidies,        and     so    on     and      so

8    forth.

9                      If you look at the major tax expenditure

10   estimates that are contained in pamphlets by the Joint

11   Committee on Taxation or by the Treasury Department,

12   you'll see that there are hundreds of billions of

13   dollars of these various tax programs.                            Whether they

14   call them tax expenditures or tax subsidies, whatever

15   else we want, they amount to hundreds of billions of

16   dollars.           And each of these systems, each of these

17   subsidies, is in itself a program or a set of programs

18   that really have to be addressed.

19                     The subsidies, as I mentioned earlier and

20   I'm sure you've heard many times, so I won't go into

21   detail, are complex.                 They're unfair enough just in

22   the sense of often being regressive.                         But they often

23   provide unequal justice.                 For some reason when we do

24   things in          the tax system, we seem to abandon the

25   notion that people deserve equal justice under the

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1    law.         As you'll see from a number of my comments

2    later, many are very poorly targeted to the needs that

3    are supposedly getting addressed.

4                     Going to the first category, job provisions.

5     As I said, you had an interesting discussion in the

6    last panel about the importance of things like the

7    Earned Income Credit and the refundable Child Credit.

8                     I'd like to talk about just one other aspect

9    affecting families.               And that is the complexity of the

10   ways we deal with children.                       We provide an Earned

11   Income Credit to families with children.                          We provide a

12   refundable         Child        Credit.      We    provide        a   dependent

13   exemption,         and     we    provide    then    for      all      of   these,

14   various phase-outs.                We phase-out the Earned Income

15   Credit.          We phase-out the Child Credit.                   We phase-out

16   dependent          exemption,        and     we    phase-out          dependent

17   exemption         in     another     way    because         the    Alternative

18   Minimum Tax increasingly becomes important.                           It treats

19   the dependent exemption as a tax shelter.

20                    In addition, the head of household status

21   provides relief for children.                     All of these various

22   child provisions and phase-outs could, I believe, be

23   combined in a much simpler way and in a much more

24   transparent way for taxpayers.                    This graph just shows

25   you some of the ways in which the value of these

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1    various credits and exemptions play out at various

2    income levels.

3                       Turning next to housing subsidies, if you

4    look at the nature of housing subsidies, what you'll

5    actually          find     is    the   distribution          of   benefits         by

6    income           class   looks     something      like       this.        At     the

7    bottom, you'll see that there are very few benefits,

8    and in fact, most of the benefits I'm showing here are

9    subsidies not for ownership but for renting.                                     One

10   could even argue that low-income households, although

11   they probably, in many cases, would prefer renting,

12   they're actually penalized in many cases for owning

13   because they would lose subsidies.                           And in the tax

14   system, the subsidy they'd lose would be the low-

15   income housing tax credit.

16                      If    you    look   at   the    benefits       of    the      tax

17   system for housing, and these benefits in the tax

18   system are larger than the entire budget of Housing

19   and Urban Development, they largely accrue to higher

20   income taxpayers.                And there's a range in the middle

21   where people get neither subsidies for renting, nor do

22   they get subsidies for owning.                       One can even argue

23   that this places higher prices for housing, and in

24   fact, disillusion because of the tax system.

25                      Turning next to charitable incentives, yet

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1    another area where the tax code permeates the life of

2    families.        The subsidies could be much better designed

3    to promote giving.              Many of the subsidies do not apply

4    at the margin, that is, they go to giving for which

5    there is very little incentive.                       Cash and in-kind

6    contributions are sources of cheating, and they invite

7    corruption.             The IRS does not have a good way of

8    monitoring        these.          And    in    the    case       of      in-kind

9    contributions, just recent controversies over clothing

10   donations and easements are just examples of some of

11   the problems.

12                    For     some     contributions,           the     government

13   subsidy goes mainly to an intermediary, that is, a

14   person could give an automobile                       -- even with the

15   reformed law that we just had on automobile donations

16   -- a person could give a thousand dollar automobile to

17   charity,         $900    of     that    contribution         could        go      to

18   salespeople who actually try to promote the donation

19   and to radio and TV announcers with, say, $100 going

20   to charity and the government having contributed $300

21   in tax relief to get that hundred dollars to charity.

22    Senator Grassley, by the way, has proposed putting

23   together some incentives for charities with efforts at

24   removing the abuses, and I certainly hope he moves in

25   this direction.

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1                     In the state and local area, there are many

2    forms of subsidies in the tax system.                   The state and

3    local tax deduction is probably the principal one.

4    There's a heated debate over what to do on the state

5    and local tax deduction.            I'm sure, as many of you are

6    aware because you've already heard testimony on the

7    Alternative Minimum Tax, you really can't avoid this

8    issue because the state and local tax deduction is

9    indeed the primary item that puts people onto the

10   Alternative Minimum Tax.

11                    But there are other state and local area

12   subsidies that are very inefficiently outdated.                         Tax

13   exempt bonds do not necessarily improve the states.

14   There may be little we can do about public purpose

15   taxes and bonds, but private purpose taxes and bonds

16   often are nothing more than subsidies for people who

17   have access to policymakers and can get their share of

18   these private purpose bonds.               They often only promote

19   arbitrage.         When a university like Harvard puts out a

20   tax exempt bond for private purposes and it has an

21   endowment of $14 billion not counting the value of its

22   land or its property, believe me, it does not need the

23   bond to borrow to do its investments.                    It basically

24   just takes the bond, reinvests it, and makes money out

25   of the arbitrage.

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1                      There are other areas of state and local

2    activity from private enterprise zones that are in the

3    tax code.           We don't even have any monitoring of what

4    these are doing.

5                      I'm     not     going    to   spend        much     time       next

6    talking about health tax subsidies because, as I said,

7    Mark Pauly next to me is going to go into them.                                          I

8    have examined them in depth, as well, and I just want

9    to make one point with respect to their effects on the

10   fairness of families.                 If you look at the additional

11   amount being spent on these health subsidies, that is

12   the growth of these subsidies, from about $150 billion

13   today        to    say     $250     billion     in    seven     years,           that

14   additional $100 billion, it turns out, is going to

15   actually increase the number of uninsured.

16                     So here we have a subsidy that's supposedly

17   helping us provide insurance for people, if you look

18   at what it does at the margin -- and I can go into

19   details later -- it actually increases, helps increase

20   the     number       of    uninsured      because      it     doesn't        really

21   encourage people to buy the basic health insurance

22   policy.           It encourages them to buy excessive amounts

23   of health insurance, which leads to costs increases,

24   which        leads        to    employers       dropping       their         health

25   insurance coverage.

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1                      You've        also     covered       retirement          plan

2    subsidies.          I'm not going to go into the discussion of

3    whether we should have them or not in the consumption

4    versus income debate.                  But I would like to point out

5    something the Chairman just, I believe, mentioned a

6    minute ago about the extraordinary complexity of these

7    incentives.          This shows you the current law.                 This is

8    only retirement, by the way, incentives in the law.

9    This does not even include the health accounts and the

10   education accounts and many of the other accounts that

11   individuals face.

12                     This    is    the    array   and    the   complexity         of

13   choices that taxpayers and planners for employers face

14   today.           It's not just the complexity that's an issue

15   in the sense of being complex.                    This complexity leads

16   to hundreds of thousands of workers operating in this

17   area dealing with the law, and much of the returns

18   that go to savings not occurring to taxpayers.

19                     I should also mention a very important part

20   of this retirement and saving issue which is that all

21   of the savings and so-called savings in the tax code

22   are not for saving.                They are for deposits. They are

23   not for saving.                One can put money in, deposit money

24   in these accounts, borrow on the other side, not save

25   at all.          And it's one reason that today total personal

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1    savings in the United States is less in value than

2    what we spend in the tax code simply on subsidizing

3    retirement saving.

4                      Higher       education      subsidies,     again,         you

5    covered this elsewhere, so I don't want to spend too

6    much time covering them other than to say that I

7    believe that they could also be easily combined.                          This

8    graph just shows you, by income level, many types of

9    child        credits       and    higher      education     credits         and

10   subsidies that a taxpayer faces in trying to figure

11   out how to fill out their tax return, as well as

12   solving what mathematicians would call simultaneous

13   equation problems to figure out which of the subsidies

14   they should take.

15                     I also just want to spend one second in

16   mentioning          some      aspect   of   business tax incentives.

17   Again, I'm not getting into the issue of whether one

18   wants a consumption tax or an income tax.                        I do want

19   to point out within the business area, there are a lot

20   of small subsidies for particular forms of business,

21   such as energy, small business, and so forth.                        Some of

22   these subsidies are claiming to be for small business

23   in     the       sense   of    affecting     low-income     or   moderate-

24   income taxpayers.              But the way they are allocated, it

25   often turns out that you may have a very rich owner of

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1    a small business who gets a tax subsidy whereas a low-

2    income owner of a larger corporation, say someone who

3    owns stock in General Motors through his or her 401(k)

4    plan, might not get any subsidy at all.                       So they're

5    allocated among families very, very unevenly and not

6    according to ability to pay or even business means.

7                      Let me conclude by pointing out that, while

8    trade offs are still required, I believe that a major

9    effort that absolutely has to be required is to start

10   monitoring some of these subsidies.                  I'm talking about

11   some of the problems, but IRS is not set up to monitor

12   these subsidies.           So not only do we have difficulty

13   administrating them, but we have to monitor them if we

14   want to improve the tax law.                And I hope that you will

15   address that process issue.

16                     Let me conclude by saying: Is there a magic

17   bullet?          I don't think so.      I believe that one         has to

18   do bottom up planning.                 You still have to decide

19   whether you want to engage in general policy, housing

20   policy, retirement policy, all the other policies I've

21   mentioned.         Decisions have to be made in each of these

22   areas and one has to decide how to make these systems

23   more       efficient,      more     fair,     and    better    for       the

24   household in general.             Thank you.

25                     MS. GARRETT: Thanks, very much.                And now

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1    Mark Pauly.

2                     MR.     PAULY:       Well,      I   could      make        this

3    presentation short by saying whatever Gene said that

4    goes double for healthcare, but I won't.                         I do think

5    it's       important       to    notice       that   problems        and      the

6    prospects of healthcare are, in many ways, the A #1

7    problem facing American families, how to get access to

8    the healthcare, the modern healthcare that can greatly

9    improve the quantity and quality of life.                           And then

10   the second problem is how to pay for it once you've

11   gotten access.

12                    I teach and do research in health economics

13   and in public economics, and there's good news and bad

14   news      from    that.         The    good   news   is    I   won't       be       a

15   healthcare type, like in medical meetings, read every

16   word on my slides.              The semi-bad news is, although the

17   main message, the one word to take away from my talk

18   about the tax treatment of insurance and healthcare is

19   mistargeted.            Both     my    public    economics      and     health

20   economics personalities agree on that.

21                    In terms of what to do about it, they're

22   somewhat in conflict.                 My health economist side says

23   let's       retarget      it    more    appropriately.            My    public

24   economist        side     says     let's      simplify     things      and      be

25   somewhat skeptical of targeting through the tax system

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1    generally.                 I'll offer a few thoughts at the end of

2    how I try to bring those two personalities together,

3    but that's still remains a serious question.

4                          What the main punch line is that there are

5    provisions in the tax code that seriously affect a

6    household's                tax    liability       based      on     what    kinds       of

7    health insurance they choose to buy, how much they

8    choose           to    buy,       how    they    choose      to     buy    it.        And

9    somewhat secondary but still also important, how much

10   uninsured medical spending they make.

11                         By     most       definitions         of      fairness,         the

12   patterns of distribution of these differences in their

13   taxes        would           be     regarded       as       highly        unfair      and

14   inequitable.                And from the point of view of efficiency

15   and      also         a     little      bit     from    a    kind    of     different

16   definition of equity, they also increase medical care

17   spending overall and they get more unequal.

18                         The major provisions, just to remind people,

19   and it's a short version of the laundry list, the most

20   important one is that the compensation that's paid to

21   workers in the form not as cash wages but in the form

22   of payment by the employer, the employer writing out

23   the check for part of the health insurance premiums,

24   is excluded from taxable income and payroll taxes.

25   Then to the extent that the employee does see an

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1    explicit employee premium, if the employer has -- and

2    a good benefits department will -- put in place a

3    cafeteria or Section 125 plan, those employee premium

4    payments can also be shielded from income and payroll

5    taxation.

6                      Thirdly, an aggressive benefits department

7    will also put in place a flexible spending account

8    which       allows      employees        voluntarily        to reduce their

9    taxable income by making deposits to that account.

10   For those people who itemize in the federal tax only -

11   -    this doesn't apply to the payroll tax                            -- their

12   spending          in     excess      of     7.5     percent     of        AGI    is

13   deductible.             And, finally, in the future, although

14   this is growing rapidly -- we're not sure where the

15   equilibrium            will   be    --     the    availability       of    health

16   savings          accounts     and    catastrophic       health plans can

17   lower        people's         taxes.         So     those    are     the        main

18   provisions.

19                     I'm going to assume, as economists I think

20   almost all assume, that employers don't actually pay

21   for health insurance, that employees pay for it in the

22   form of compensation.                  Although some employers try to

23   bring tears to your eyes by complaining about how much

24   they're paying for health insurance, most of them,

25   I've       found,       will       agree     that     when    their        health

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1    insurance          premiums         rise,    almost      all    of    that      money

2    comes out of the raises that they would have otherwise

3    given to employees the next period.                            So workers pay,

4    boss doesn't pay.

5                       The    exclusion,         of    course,      leads        to     tax

6    expenditures             that       are     larger      for     higher        income

7    households             that   are    vertically         inequitable by most

8    definitions of vertical equity not only because, as is

9    true of any deduction or exclusion with progressive

10   income tax, you save more tax the higher your marginal

11   tax rate if you can deduct or exclude a dollar but

12   also because higher income people are more likely to

13   have insurance.               When they have it, it's more generous

14   and      more      expensive         insurance.          And,    as      if     there

15   weren't enough injustice in the world, they live in

16   high priced, high healthcare quality areas.                              Although,

17   I guess you could argue that goes two different ways.

18                      The total values, Senator Breaux mentioned

19   that the EITC was a big deal, $40 billion.                                  Well, I

20   know it's a billion here and a billion there, but

21   here's $188.5 billion, according to the estimate from

22   Shiels           and   Haught.        There       are   a     couple     of     other

23   estimates that are all in the same ballpark.                               And that

24   doesn't include the value of exclusion from state and

25   local taxes which would add another 30 to 40 billion.

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1                       In     the     U.S.,         healthcare          spending,        the

2    official data say that government provides almost half

3    of all healthcare in the U.S.                           Actually, that's wrong.

4     If you add in the value of this exclusion, which as I

5    said,        is        about    29        percent       of    private      insurance

6    spending, the U.S. government is actually paying for

7    much more than half of all healthcare in the U.S.                                    You

8    can see the breakdown there.

9                       The lion's share of this exclusion comes

10   through           the     treatment          of     employment-based           health

11   insurance,              both     the       cafeteria         and     the    employer

12   payment.               The next largest one is the income tax

13   deduction, which is a very minor seven percent, and

14   actually the most defensible provision there.                                        And

15   then there are smaller percentages for the others.

16                      Here are some numbers from the Shiels and

17   Haught           study    to     show       you     how      that    exclusion         is

18   distributed.              And, as you can see, at high income

19   levels like this percentage of the poverty line here,

20   it's a lot.              And down below the poverty line, below

21   100     percent          of    the     poverty      line,      it's     negligible.

22   Another way to look at that -- oh, and I should say

23   this is the total distribution.

24                      If    you     look      at     the    distribution        for     the

25   income           tax    alone,       it    would    be       more   skewed     toward

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1    higher           income   people.        It's      only   the    payroll        tax

2    exclusion which we all pay that kind of keeps there to

3    be some value for those lower income people.                                    The

4    people who are above 400 percent of the poverty line,

5    not poor by anybody's standards, get almost two-thirds

6    of the total value of the exclusion.

7                       Then, I know this is not perfectly precise

8    and the arrows go both ways, but the last two columns

9    are supposed to help you match what we are spending

10   through this tax exclusion with needs.                          And the basic

11   message here, I think, is that the lower income people

12   who have the hardest time affording health insurance

13   and therefore ending up with private health insurance,

14   is what I've tabulated                there, get the lowest value of

15   the tax exclusion.

16                      Now, those people below the poverty line, of

17   course, don't just get private insurance.                            They also

18   get Medicaid.             But, even so, about a third of them are

19   insured.           But, if you can do your arithmetic in your

20   head, to me the important message from the last column

21   is, if you add 29 and 19 together, almost half of the

22   total       uninsured        are    people     with    incomes      below       300

23   percent of the poverty line, below the median income.

24    It's those tweeners that are the biggest problem, and

25   they get a much smaller share of the total value of

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1    this tax exclusion.

2                          Here's a sort of summary of the effects by

3    income.               The     richest       half    get       75    percent       of    the

4    subsidy.              The poorest half make up 75 percent of the

5    uninsured.                 That's mistargeting with a capital "M" in

6    my point of view.

7                          Equity,       well    even     within         income    classes,

8    taxes            a     person        of      equal           real     income,          real

9    productivity,                real    total     compensation            will       end    up

10   paying           depends       on     how     their          health    insurance         is

11   arranged.              My twin brother, Skippy, if I had a twin

12   brother Skippy, who worked for a firm that did not

13   provide              health    insurance       benefits             would    pay       much

14   higher taxes than I do.                      I figure to the tune of about

15   $9,000 for me, since I've been lucky enough in life to

16   be able to pay higher taxes at high tax rates.

17                         Of     course,        those        employers          who     offer

18   cafeteria plans get grace.                           It's amazing that many

19   employers             don't.          Although,          I    guess     the       federal

20   employees             didn't     get       cafeteria         plan benefits until

21   just       a      few       years    ago.          You       can    easily    see       why

22   governments have a somewhat conflicted point of view

23   here.            And this is important, the more expensive the

24   insurance you choose, the lower your taxes.                                   Not that

25   I have anything against dental insurance, personally.

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1     But I personally believe that we would have much less

2    dental insurance and insurance to cover glasses and

3    things like that were it not for the tax subsidy.

4                      And, finally, those who use flex accounts,

5    especially those that clean out the account, pay less

6    taxes.           My wife asked me to wear this tie; it was a

7    Christmas present.              But I was afraid you wouldn't

8    notice my Calvin Klein glasses here.                      These stylish

9    designer glasses were paid out of my flex account.

10   They cost twice as much as Pearle Vision generics.

11   And I'm thankful to the U.S. Treasury for improving my

12   appearance, but I would not put that high on the list

13   of social priorities.

14                     Basically, this is what I just said, in a

15   given tax bracket, taxes differ for households with

16   the same average medical spending.                  In particular, and

17   this has changed a bit since the advent of HSA/CHP,

18   but before that, if a person bought a cost containing

19   health plan that was an HMO, so all of the costs

20   that's paid by the premium, they were able to deduct

21   all of that cost.

22                     If they didn't like HMOs but preferred the

23   do-it-yourself HMO, known as catastrophic health plan,

24   previous to the change in the law, they could only

25   deduct premium for the health plan not the value of

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1    the      out-of-pocket            payments.        And,       even      now,      most

2    people wouldn't have in their HSA enough to cover the

3    full deductible.                  So this is skewed in terms of one

4    direction             of   cost    containment      compared to another.

5    HMOs do, I think, redress this inequity somewhat in

6    the      group         market,     but    as   usual,     at    the        cost       of

7    creating          inequity         at    the   individual       market          where

8    they're the only game in town.

9                      They also lead to an uneven distribution of

10   risk protection and medical care use.                           We are pretty

11   sure, although as you'll see, it's not so precise as

12   we'd like it to be, that people are more likely to buy

13   insurance at higher the tax break.                      And we are sure as

14   we     can       be    that,      when   people    have       generous        health

15   insurance, even people who aren't poor, they spend

16   more on healthcare.                     So the consequence of that is

17   through what's called moral hazard to cause healthcare

18   spending to be higher than it really ought to be for

19   the people who have the least need to have stimulus in

20   their spending.

21                     Oh, and I should mention another kind of

22   inequity, The Aides to Healthcare Research and Quality

23   publishes a report on healthcare disparities.                                     They

24   are mostly interested in the disparities related to

25   race and ethnicity, but that's highly correlated with

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1    income.          And the punch line is because I get a big tax

2    subsidy and low-income people don't, that makes my use

3    of     healthcare          at     least      much       higher         than       theirs

4    compared         to    what      it    would      be    in       a    more       neutral

5    arrangement.

6                      The punch lines are that these estimates are

7    imprecise.             Oh,      that    should      say      5       percent      to     20

8    percent.          It's even more imprecise than it appears.

9    But there is a general consensus.                         We don't know quite

10   how much, but making health insurance taxable would

11   reduce medical care spending.                      And no matter how much

12   it is, it would give us more confidence that the way

13   competitive            markets        work   in   health             care    would       be

14   likely to be efficient.

15                     This    last        line   is    my     version           of    Gene's

16   point.            By    encouraging          me   to      buy        lavish       health

17   insurance, that raises health insurance premiums for

18   people who can much less well afford it and leads them

19   to the uninsured.

20                     My     conclusion,         limiting        the       tax       subsidy

21   would improve both fairness and efficiency.                                      You get

22   two for the price of one here, which is not usual in

23   tax policy.             The best thing would be to include all

24   compensation as taxable income.                         The second best has

25   been suggested by Glenn Hubbard and a number of people

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1    lately           is,    well,     at   least      we     could     avoid        the

2    distortion             between    insurance       and    non-insurance            by

3    allowing everything to be deducted, although at the

4    cost of skewing and spending more toward healthcare.

5                      My view on my health economist side is that

6    subsidies          for     the    upper     middle       class     should         be

7    limited.           But refundable insurance tax credits should

8    be used for lower-income people.                        And I think I know

9    how to do that.             In a flat tax setting, which would at

10   least abolish, I would hope with a full definition of

11   income, the breaks for upper-income people.                             I would

12   make a small plea for including a provision in the

13   allowance that would encourage people to obtain health

14   insurance at least at a basic level.                        Thank you.

15                     CHAIRMAN BREAUX: Thank you, Mr. Pauly, for

16   your comments and presentation.                    Next, Mr. James Alm.

17    Thank you for being with us, and we look forward to

18   your presentation.

19                     MR. ALM: I'd like to thank the panel for

20   inviting me here today.                   I'd also like to say that

21   much of what I'll discuss today stems from joint work

22   with my late friend and colleague, Leslie Whittington.

23    I'd like to think that her legacy lives on in many

24   ways       including        the    work    that     we've      done      on     the

25   marriage penalty.

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1                       The United States, just like most countries

2    around           the   world,    as    you    well    know,     imposes         an

3    individual income tax.                 In administering this tax, a

4    decision has to be made about who                           exactly is the

5    individual, who is the individual in that tax.                                  An

6    issue       referred       to    as    the   choice     of    the    unit       of

7    taxation.

8                       Traditionally, this choice has been seen as

9    one between the family, the married couple unit, or

10   the individual, a single taxpayer.                           In the former

11   case, the incomes of all the members of the family are

12   added up, and the income tax is imposed on total

13   family income.             And the latter takes each individual's

14   tax only on his or her individual income even if

15   they're a member of a larger family unit.                               So the

16   choice is not between the family and the individual.

17   It is really not as easy as it might appear, and it's

18   really at the heart of many of the issues surrounding

19   the marriage penalty.                 So what I wanted to test today

20   are these topics, these issues.                      What's the marriage

21   penalty?           Why does it arise?         How big is it?         Why does

22   it matter?             What do other countries do?            And can it be

23   reduced or eliminated?

24                      So what's a marriage penalty?              Well, simply

25   put, a marriage penalty exists when the income taxes

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1    of two individuals as a married couple are greater

2    than their combined taxes as singles.                            Although it's

3    not as widely recognized or discussed, there can also

4    be a marriage bonus if taxes fall with marriage.

5                      Here are a couple of simple examples.                      Based

6    upon 2001 tax law -- and I'll update this in a little

7    bit, but I needed the 2001 for a reason here.                             Suppose

8    you have two single individuals each with income of

9    $30,000, and they take the standard deduction, the

10   personal          exemption.          Their       individual        taxes        are

11   $3,383,          and    their     combined     taxes        as    singles        are

12   $6,700.          If they were to marry, their joint income is

13   $60,000.          They take the married standard deduction and

14   their two personal exemptions.                      Their joint tax is

15   $7,172.                And   in    this     particular           case,       these

16   individuals pay more as a married couple than they

17   would as two single individuals.                        That difference,

18   that $406 is their marriage penalty, their marriage

19   tax.

20                     You can also come up with marriage bonuses,

21   as well.           Take the same level of family income, only

22   now split it zero to one person and $60,000 for the

23   other.           Their individual taxes, if they were single,

24   would be over $11,100.                 As married taxpayers, they'd

25   pay the same $7,172.                And this couple now receives a

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1    marriage bonus, a marriage subsidy of $4,026.

2                          I say that again that recent changes in the

3    income tax laws have reduced penalties and increased

4    bonuses          for     most    families      as   worked     by     Gene       as

5    demonstrated.             I'll return to that point later.

6                          So what is this marriage penalty?                What is

7    this unequal treatment?                   Well, the quick answer is

8    because the family's unit of taxation is a progressive

9    income tax.               So, when people with similar incomes

10   marry,           my    $30,000/$30,000       example,        their    combined

11   income pushes them in the higher marginal tax brackets

12   than they faced as singles, and they pay more as a

13   married couple than they do as singles.

14                         In contrast, the marriage of two people with

15   very unequal incomes, the $60,000 and the zero, allows

16   them income splitting, and the tax code allows the

17   person with the higher income to move into a lower tax

18   bracket as a result of marriage and so that reduces

19   the combined tax burdens of both of the partners.                              Put

20   differently, income splitting in the tax code doesn't

21   really help individuals with similar incomes, so they

22   face a marriage penalty.                  But it does benefit couples

23   with unequal incomes giving them a marriage bonus.

24                         A more complicated answer is that, as Gene

25   has emphasized throughout his work on this issue, a

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1    marriage penalty or a marriage bonus occurs when you

2    have two conditions in a tax or transfer system.                               You

3    have the tax of the transfer that imposes tax based on

4    family income, and you impose a different marginal tax

5    rate, either rising or falling with income.

6                       An even more complicated answer, I think, is

7    that there are really multiple conflicting goals in

8    the individual income tax.                     We decided that we want a

9    progressive          tax    system       of     increasing     marginal        tax

10   rates        and    decided       that     married     couples      that       are

11   equally          situated       should    be    treated    equally.          Some

12   people have decided -- I'll put this in because I

13   think this is getting more notice these days -- that

14   married          taxpayers        and    single       taxpayers       who      are

15   similarly situated -- and can never be identically

16   situated, but similar situated with people like them -

17   - should pay the same taxes.                    And marriage neutrality,

18   the taxes should not change simply as a result of

19   marriage.

20                      Now, again, these goals are not universally

21   accepted especially equal payments.                        But the point I

22   want      to     make   here      is     that    no   income    tax     and      no

23   transfer system can achieve all of these goals at the

24   same       time.           If     one    was     willing       to   sacrifice

25   progressivity, then the other goals could be achieved.

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1     But no progressive income tax or transfer system can

2    simultaneously           achieve       all    the    other       goals     of     the

3    income tax.

4                     And,     in    fact,        when     you        look     at      the

5    conditions         under        which        you     have     marriage          non-

6    neutrality,            the     family        is     the     unit,        and      the

7    progressive is changing marginal tax rates.                              It makes

8    it     clear     that    there     are       many,    many       other     federal

9    programs         and    state    programs,          especially          transfers,

10   that       generate      a     marriage        benefit       or     a    marriage

11   penalty.

12                    According to the GAO, a study that's now

13   about ten years old, there are over a thousand federal

14   laws       in    which       marital    status       was     a    factor        and,

15   therefore, generated marriage penalties and bonuses,

16   ranging from food stamps, and TANF, and Medicaid, and

17   housing subsidies, and Social Security, and retirement

18   benefits for veterans and so on.                          Just in the income

19   tax, there are close to 60 provisions that contribute

20   to this marriage penalty.

21                    So this is a pervasive issue.                      How big is

22   it?      Well, there are a lot of attempts to quantify the

23   magnitude of the marriage penalty.                          This is a little

24   harder than it might appear at first blush, and I

25   won't go into the subtleties.                         But I have several

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1    representative        studies     up   there    including one that

2    Leslie and I did.           I think a standard result in the

3    one that Leslie and I have is that -- and these are

4    somewhat dated numbers, but I don't think the numbers

5    -- well the numbers have changed.                   The numbers have

6    changed.

7                     But the numbers for about ten years ago were

8    about 57 percent of married couples paid a marriage

9    penalty of about $1,200.               Thirty percent received a

10   marriage bonus of about $1,100, and 13 percent were

11   unaffected.        If you look at CBO numbers, Office of Tax

12   Analysis numbers, the precise estimates will vary to

13   some extent.          But everyone comes up with estimates

14   that suggest this is a big deal.               But, in total, there

15   are significant impacts on the total amount of taxes

16   that are collected.

17                    So why does this matter?               Why do we care

18   about the marriage penalty or the marriage bonus?                               I

19   think there is a lot of evidence that the existence of

20   the penalty affects the efficiency and the equity and

21   the adequacy of the revenues of the system as well as

22   affecting the complexity of the system.

23                    On the efficiency side, I think there's a

24   lot of evidence that -- perhaps surprisingly so, but

25   there's a lot of evidence that individuals respond in

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1    their       marital     decisions        with     these    differences            in

2    taxes in the decision to stay single versus married,

3    to     cohabit      versus      marry,      to    stay     married        versus

4    getting divorced, and the time of the decisions to

5    marry.

6                     Now, I think the evidence -- a lot of this

7    is from the work that Leslie and I had done -- is that

8    generally these responses are fairly small, and taxes

9    don't        appear     to   be    the     driving        force      in     these

10   decisions.            Even   if    one    looks     only    at     low-income

11   individuals, that focuses on welfare policies.                                  The

12   results there are very, very tenuous and very, very

13   mixed.           There's not consistent evidence that these

14   programs I think have a major impact on the decision

15   to marry.

16                    But I think there is some more evidence on

17   the labor part of the decision.                    Jim Heckman, I think

18   talked about that, and so I won't go into that.

19                    On the equity side, I think the evidence is

20   that       the     marriage       penalty        introduces        large        and

21   variable and capricious inequities due simply to the

22   marital status of taxpayers between married couples

23   with one earner or two earners, between married and

24   cohabited couples, between married couples and single

25   households,           between     married        couples     and       extended

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1    households where individuals may not necessarily be

2    related to one another but are living with each other,

3    older parents and such returning to live with their

4    children          or    children      returning     to    live    with      their

5    older parents.

6                      And,     as    Gene      has    mentioned,      again,        the

7    marriage tax is almost like a voluntary tax, and it's

8    imposed          on    those    who     have     voluntarily      decided         to

9    marry.           Is this really what we want our tax system to

10   do?

11                     On the revenue side, it affects revenues

12   clearly.              What about other countries?                 What about

13   other countries?                Well, the international practices

14   quite vary.            I've just, in fact, done some recent work

15   with Mikhail Melnik looking at OECD countries, plowing

16   through the tax codes of those countries.                             That's a

17   fun and engaging enterprise.                      And what we found was

18   that there is a lot of variations in the practice, but

19   most all countries have an income tax.                           Most all use

20   progressive rates.

21                     The individual, rather than the family is,

22   for the most part, the unit of taxation, and there is

23   a     trend       toward       that   in    the    last     30    years,        not

24   universally so, but nonetheless there is a trend in

25   that direction.

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1                      So   to     conclude,     can    the     marriage       tax      be

2    reduced or eliminated?                 Well, again, doing so requires

3    eliminating            the    two     conditions     that     generate           the

4    marriage tax, imposing the tax on family income and

5    imposing the tax on progressive rates.                             Recent tax

6    changes in 2001 and 2003 changes reduced the marriage

7    penalty or increased the subsidy for most households

8    by means of the major provisions.                          The one I don't

9    include here and that's the one that drove most of the

10   results is the change in the Child Credit.

11                     Again,      a    simple   example       based      upon      2004

12   numbers,          single       taxpayers     with     the     same        incomes

13   $30,000/$30,000,               their    combined         taxes      as     single

14   individuals would be $5,900.                      Married taxpayers with

15   joint        income      of       60,000,   they    pay     the     same       tax.

16   There's zero marriage penalty or bonus largely because

17   of the expansion of the tax brackets and the doubling

18   of the standard deductions for married couples.

19                     Here is an example also that the marriage

20   bonus is still around.                  The same example as before,

21   the marriage bonus has declined a bit, but it's still

22   around.          Here is something that is shamelessly stolen

23   from Gene in a paper that he wrote with Adam Carasso

24   that       made    far        more    detailed     calculations           on     the

25   representative households and the way in which the

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1    marriage tax was changed.                    What this has, the top

2    chart       is    a    family    with    total     household         income        of

3    $30,000, the bottom with $60,000.                      And then along the

4    horizontal axis are different splits of income between

5    these individuals.

6                      The blue line is the old law; the pink line

7    is the Economic Growth and Tax Relief Reconciliation

8    Act.        And you can see that the line generally, not

9    always, shifts down, meaning to be the subsidies are

10   increasing or the penalties are declining.

11                     So what can you do?               Well, more broadly,

12   there are a variety of things that can be done to

13   reduce, on a piecemeal basis,                     I think the marriage

14   penalty, increase the standard deduction, which was

15   done.            Increase     the     standard    tax       brackets       facing

16   married          couples,     reinstitute        the    secondary          earner

17   deduction,            standard      phase-out    range       of    the     Earned

18   Income Tax Credit, flatten overall rate structures,

19   allow optional individual filing or either make it

20   mandatory.

21                     More     fundamentally,         if     you'd        eliminate

22   progressivity in the income tax, you'd eliminate the

23   marriage          penalty       and   the    marriage        bonus       in      the

24   individual income tax.                If you made it a flat rate tax

25   there would not be differential treatment.                          Or, if you

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1    eliminated individual income tax and replaced it with

2    a national sales tax or a value added tax, you'd be

3    getting rid of the non-neutrality of the income tax

4    treatment.           But you'd have to keep in mind that there

5    would            still     be     marriage         penalties     and         bonuses

6    sprinkled           throughout          all   of    the   tax    and       transfer

7    system.            So eliminating all marriage taxes and all

8    marriage bonuses is a tough job.                      Thank you.

9                       CHAIRMAN BREAUX: Thank you very much, Mr.

10   Alm.       Any questions on this side?

11                      MS. SONDERS: Staying on the very last point

12   about the potential -- instead of thinking of optional

13   individual filing, I'm thinking mandatory individual

14   filing.            Can you talk about a structure like that

15   given that one of our guideposts is revenue neutrality

16   where both the cost and revenue side of moving to

17   mandatory individual filing would be?

18                      MR. ALM: If you made it optional, then there

19   would be a revenue loser because the individuals who

20   are getting the bonuses                       -- and there are lots of

21   individuals              who    are    getting     bonuses      --    don't       lose

22   track of that -- they would obviously continue to file

23   as a married couple.                      And so the people who would

24   chose the option of optional filing would be the ones

25   who are facing the tax.                   So you'd lose there.

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1                      If you made it mandatory, then it depends

2    upon the number of individuals who are getting bonuses

3    and      the      number    of     individuals       who   are      getting

4    subsidies.            And   the      estimates      are    varied.           My

5    estimates are that there were more paying a                         penalty

6    than receiving a bonus.                   So that, because of the

7    income tax treatment, there were additional revenues

8    that       were     generated.         And   so,     if    you    made       it

9    mandatory, those revenues would be affected in that

10   way.

11                     MS. GARRETT: I want to keep on the so-called

12   marriage penalty.           If we could do anything to get rid

13   of that terminology I think would be a good thing

14   because, in fairness, it obscures the marriage bonus

15   that you talked about here.                      But, in addition, you

16   talked a lot about the incentives to get married, to

17   get divorced, et cetera.

18                     In my view, the real problem is the bias

19   against the secondary earner in a two income family,

20   which in our world, is a bias toward women being in

21   the work place and earning money.                   And so that's what

22   I want to focus on, if we could, because that strikes

23   me as much more compelling and worrisome than any

24   marginal effect on marriage, divorce, et cetera.                           And

25   here's the reason it's compelling and worrisome, for

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1    many women that's not a discretionary act. That's an

2    absolute          necessity      with   respect     to their families,

3    with respect to their position if, heaven forbid, they

4    do find themselves divorced.

5                       And we also neglected to talk about one of

6    the real disincentives to secondary earners, which is

7    the differential treatment for when you provide your

8    own childcare or when you have to pay someone to

9    provide           childcare,        which      further      reduces          the

10   willingness of, again, primarily women to enter the

11   work force.          So I'd like to sort of focus on that part

12   of families and the so-called marriage penalty.                          Let's

13   call it the secondary earner bias.

14                      How   would     we   think     about     that,     keeping

15   intact a system of progressive rates?                         So what I'd

16   like to talk a little bit about, I wondered if Gene

17   could talk to us about, when you were thinking about

18   these things for the '86 Act, did you think about

19   mandatory individual filing?                     That's what most OECD

20   countries have that would deal with this to a large

21   extent.           I know optional filing has tremendous revenue

22   losses because people just choose what's beneficial to

23   them.            But can we think about that?                What did you

24   learn from '86?               What advice would you give us for

25   that?

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1                     And then, James, you mentioned there the

2    secondary earner deduction, I think.                    Could you talk

3    more about that and what other kinds of proposals we

4    could adopt within a progressive structure to deal

5    with the secondary earner bias, particularly at the

6    lower and lower middle income families?

7                     MR. STEUERLE: When we dealt with this in the

8    '84 study, our main effort at reducing the marriage

9    penalty was to flatten the tax rate.                    You'll remember

10   from the conditions that Jim laid out it's variable

11   tax rates that lead to -- if you replace the same tax

12   rate whether you're single or married, then once you

13   combine the household, it doesn't make any difference.

14                    The way the EGTTRA and JGTTRA did, the 2001

15   and 2003 Acts, they went more towards trying to deal

16   with allowing income splitting, as Jim has explained,

17   which solved the problem for most of these examples

18   for most of you.            The taxpayers may still face the

19   same issue because whether you extend that law is one

20   of the issues you face.            But what it doesn't deal with

21   is when you get down to the people on the Earned

22   Income Credit.         And if you want to go even further,

23   the people who are in the various welfare systems.                              I

24   don't know whether -- can we go back to my slides?

25                    But I have one there where I lay out the tax

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1    rates for people when they go from $10,000 to $40,000

2    of income.         I didn't go through it because I ran out

3    of time.         But, if you look at the federal tax system

4    by itself including Earned Income Credit, they face

5    about a 37 percent tax rate.                 The bump up there is

6    mainly due to the phase out of the Earned Income

7    Credit.

8                     If you go with other programs, and again, I

9    don't know how far you want to go on commenting on

10   this, but if you go into, let's say, the universal

11   code, food stamps, Medicaid, and such, their tax rate

12   is about 55.            You go into TANF, welfare, and public

13   assistance, their tax rate is like 90 percent.                          That's

14   because they lose Medicaid and all this other stuff.

15                    Now, you might say, well, we can't do it

16   that way with the taxes.               But a statement that says

17   something        like    low-income       taxpayers       in     all      these

18   systems should not pay something higher than a

19   50 percent of even a 60 percent tax rate.                        Somehow or

20   another we should be working on that.                      It would not

21   only deal with the question of the incentives for

22   work, but it flattens the rate.                         It would reduce

23   substantially, the marriage penalty.

24                    The other way to go -- Jim talked a lot

25   about       individual     filing    in    the   income         tax.          But

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1    there's also a play on that with the Earned Income

2    Credit.          Here, it's not so much the women; it is

3    actually the men.                  It's usually the women who are

4    getting the Earned Income Credit because they have the

5    children.         We don't have a wage subsidy for low wage

6    workers.         And even the First Lady has talked about how

7    we have sort of forgotten men in much of this sort of

8    welfare or transfer system or educational system.

9                     They're really left out because we devote so

10   much       of    our   resources          to   having       children       in     the

11   family.          So the man comes into the family and what

12   immediately happens is the wages that would be taxed

13   at say a 25 percent rate, with Social Security tax and

14   maybe a little income tax, all of a sudden pays an 80

15   percent tax rate because all of a sudden that income

16   in the family causes all sorts of reductions.

17                    So    one    way         to   deal     with      that,       given

18   conditions         that      Jim     laid      out,    is   to    think       about

19   something that might go more towards wage subsidies

20   that are for low wage workers, independent of whether

21   they have children.

22                    MR.   ALM:        You're      absolutely        right     on     the

23   secondary         earners.           In    some    sense,       the    secondary

24   earner is taxed as though his or her income is simply

25   added       on   top   of     the     primary         earner.         So   they're

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1    already facing really high marginal tax rates.                        So how

2    do you deal with that?                Well, I hesitate to speak on

3    these things with Gene here.

4                       There's an old -- I don't know if we have

5    any movie fans here -- in Mr. Smith Goes to Washington

6    where Jimmy Stewart has been nominated to be Senator

7    and he says, "I think there's got to be a mistake

8    here.            I never really see why we need two senators

9    from the state when one of them is" -- and he points

10   to Claude Rains.              So I'm not sure why I'm needed on

11   this       panel      given    that    Gene    is    here,     given        his

12   expertise on this.

13                      Back in 1981, '82, and '83 with the tax

14   changes that were enacted then -- and I think that

15   these        are     consistent       with    the    secondary        earner

16   deductions          that   have   been    suggested more recently.

17   The way in which that worked was -- at least when it

18   was fully phased in -- ten percent of the earnings, I

19   believe, of the spouse with the lower earnings up to

20   $30,000 was allowed a deduction, so up to $3,000 was

21   allowed.           That was phased out in '86 or earlier.                   But

22   that would be one way of giving some incentive to the

23   secondary earner here.

24                      How does that affect the EITC person?                    I'd

25   have to think about that, but I will.

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1                      MS. GARRETT: Thank you.

2                      MR. LAZEAR: Once again, I have a couple of

3    questions from Jim Poterba.                    What I think I'll do, in

4    the interest of time, is maybe ask one of his and then

5    integrate one of his with my own.

6                      This one's for Mark and for Gene.                          This is

7    from       Jim.         When      healthcare       savings       accounts          were

8    enacted, many hoped that over time they would slow the

9    growth           of    the       traditional       tax       expenditures          from

10   employer-provided healthcare insurance.

11                     Do       you    see   healthcare            savings       accounts

12   playing a substantial role in the future, and if so,

13   how will they affect the analysis of tax incentives

14   and health insurance in the market place?

15                     MR.        PAULY:     I    guess       I     have      not       much

16   confidence            in     my    ability    to     predict      many        of     the

17   answers to those questions.                    What I am pretty sure of,

18   though, is that the rate of growth of health spending

19   in the long run will not be affected by health savings

20   accounts.             Their impact on spending, by entering the

21   office pool there, is about

22   15 percent, although some people think more.

23                     Where it mostly occurs is as they're being

24   phased in, but the main drivers of healthcare spending

25   are the addition of new technology.                           And I don't think

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1    we have any evidence that they'll slow the rate of

2    addition of new technology.                         So, having said that,

3    that doesn't mean I think they're a bad idea.                              It just

4    means I don't think they're the answer to that issue.

5                       The question of how popular they will end up

6    being, I think is much harder to conjecture on.                                   And

7    I'll revert back to the one line on my slide.                              I would

8    rather see that settled by a wholly neutral tax system

9    that       allows        people       to     choose       catastrophic,         high

10   deductible plans, Rambo HMO's, or lavish health plans

11   at high premiums depending on how they wanted to spend

12   their money on healthcare and other things rather than

13   in a way have people in Congress have to design health

14   insurance for the American public, which, with all due

15   respect, is probably not the strongest suit of most

16   Congressmen.

17                      So    I    think        they're    certainly        something

18   that's           worth   trying,        and    in     a    way,   I    guess        my

19   philosophical                point      of    view        is,     if     we       had

20   uncontaminated free markets, that would be the best

21   way to settle these things.

22                      MR. ALM: If I can go back to your question?

23    I thought about it a little bit more.

24                      MS. GARRETT:         Sure.

25                      MR. ALM: Forgive me for interrupting.                          One

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1    of the options -- I put this under piecemeal reform,

2    but one of the options is to make the individual the

3    unit again.            More broadly, I think, if the programs

4    are attached to the individual, whether it's the taxes

5    or the transfers, then you don't have the issue of the

6    secondary earner being penalized in that way.                              I know

7    that there's some nice work coming out of Urban and

8    Brookings         that      are    suggesting      that     some      of     these

9    welfare,         these    transfer       programs        should be focused

10   more and be attached to the individual receiving them

11   rather than the family unit.

12                    Effectively, what that's saying is make the

13   individual the unit of the program.                         And that would

14   work in the same way with the secondary worker.

15                    MR. LAZEAR: Let me follow on that.                     That was

16   actually         my    question.            When    I     think     about        the

17   appropriate           unit    of     analysis      for    the     purposes         of

18   something like, say, fairness, the usual argument if

19   you're thinking of the family as the unit of analysis,

20   is that the spending unit is the family and that

21   individuals share income within the family both at a

22   point in time and over time.

23                    If    we     look     at    changes        in    society          as

24   marriages have broken up more frequently, the family

25   is the unit of analysis particularly when you think

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1    about it in terms of lifetime wealth, it's a poorer

2    proxy.           And so that's kind of pushing the direction of

3    thinking about the individual as the unit of analysis

4    again.

5                       The one question that I have, and it follows

6    on Beth's point, having to do with incentives, so if

7    we did think about the individual as the unit of

8    analysis,          would    that     have    the    effect    of    inducing

9    families to try to smooth their hours or spread their

10   hours across individuals?                   Because in a progressive

11   tax structure, if one individual earns at a very high

12   rate, cut those hours in half and have two individuals

13   then earn at a lower rate and pay a lower total tax.

14                      So the question would be then, would that be

15   beneficial from an efficiency point of view?                             Would

16   you view that as neutral, or would you view that as an

17   actual           distortion    in    the    actual     pattern     of    labor

18   supply within the household?

19                      MR. ALM: That's a fascinating question.                         I

20   guess I would view that as a distortion.                                They're

21   responding to the taxes in that way and, consequently,

22   changes the behavior in the tax system.                      To be honest,

23   I don't know that anybody has any idea how big of a

24   response          that   would      be.     And    I   think,      on   equity

25   considerations, there are arguments to be made in the

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1    other       direction.          In    fact,    my     own    notion    on     the

2    individualizing           of    the     taxation       is    it's     probably

3    driven more by equity considerations than efficiency

4    considerations, I think at this point.

5                     You    know,    when    the        income   tax    made      the

6    family unit of taxation in 1948 effective, defacto

7    with income splitting, the traditional family was a

8    one earner family with a stay-at-home spouse.                                 And

9    over       the   last     50    years,    there's       been    a     dramatic

10   increase in the number of individuals who are choosing

11   to live alone, and two earner families is the norm.

12   Labor force participation rate of women has increased.

13    Non-marital           cohabitation           has     increased       a     lot.

14   Extended         families       are      increasing.               There      are

15   widespread instances of unrelated individuals living

16   together as a family unit and sharing the resources

17   that presumably are going on in the family, as well.

18                    So all of these different household units

19   are families in some sense.                    They are treated much,

20   much differently, sometimes more favorably, sometimes

21   less favorably in the tax code.                      So I think it's more

22   of an equity argument in my own mind for eliminating

23   the marriage penalty by going to the individual.

24                    MR. STEUERLE: I think that's right.                   I mean,

25   what exactly has happened over the last 20, 30 years

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1    is more and more the marriage -- it's really not a

2    marriage penalty.               In a sense, it's a marriage vow

3    penalty.           There      are     all    sorts    of    combinations              of

4    households, and I'm not just talking about people who

5    are living together and having relations.                             I'm talking

6    about, you know, college kids living together, all the

7    examples that Jim gave.                      All these households have

8    economies of scale.

9                      If    we    were      really       trying         to     hit      all

10   households according to the fact that two people can

11   live cheaper than one, then we would be satisfied with

12   the     marriage        penalty.          But     it's   such        a    voluntary

13   system; it seems to me that, on equity grounds, I

14   agree with Jim.                We are in a world where it just

15   doesn't make a lot of sense to have much in the way of

16   marriage penalties.

17                     The    dilemma,           of    course,       is        that      one

18   resolution is that you still have a lot of marriage

19   bonuses.           And it's not clear that necessarily one

20   wants       all    those      marriage       bonuses.           I    think       we're

21   backing          into    it    mainly        because       of       these     equity

22   considerations.

23                     I'd also like to just simply add one thing

24   when       we     deal       with     wage       subsidies          and     children

25   subsidies.         Right now, in the Earned Income Credit, we

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1    combine the two, and that adds sort of a dilemma

2    because, as I mentioned earlier, you could put the

3    wage subsidy according to lower wage earners.                           That's

4    not easy to do, by the way.                   I'm not saying it's easy

5    to do.

6                       But    you        could   make      the   wage      subsidy

7    according to -- to give to low wage workers regardless

8    of whether they are married or not.                          And you could

9    then have a children's subsidy which essentially goes

10   to the child regardless of the sort of a combination

11   of households that they are in.                        I think that takes

12   care some of the problems but not all of them.

13                      CHAIRMAN BREAUX: And just a comment or two

14   maybe on the question of healthcare in the tax code.

15   It's the biggest problem, I think, in the country

16   today,           much    more    difficult      than    Social       Security.

17   Social Security has sufficient funding until the year

18   2018.        There are 40 million people on Social Security

19   today that get a check every month, and it's never

20   going to decrease.

21                      But right now, today, as we sit here in New

22   Orleans,          there's       40    million    people      going     without

23   health insurance at one point during the year, right

24   now, today.              Not in the year 2018, not in the year

25   2042, right now.

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1                      Many people have suggested that the tax code

2    is a very powerful instrument to try and come up with

3    creative ideas to help bring about a system where

4    people in this country have health insurance because

5    they're an American citizen, not because we put them

6    in a box somewhere, a Medicare box or Medicaid box, or

7    a VA box, or an uninsured box or employer-sponsored

8    health benefit box.

9                      How, if you were starting with a clean slate

10   -- I know this is a long question to do a seminar on -

11   - but can you give us an idea, if we were starting the

12   tax code clean, how would we provide incentives in it

13   that can help insure that people in this country are

14   able to access a private insurance plan?

15                     MR. PAULY: The simplest version of that --

16   and I try to keep it simple that I thought of -- is a

17   system           of   refundable,      approximately      advanceable,

18   refundable closed-end tax credits that vary                   inversely

19   with income that basically say, if you're a low-income

20   person -- and probably it's better accepted.                       It's a

21   somewhat tainted word to call them by their true name

22   -- you get a voucher for "X" thousand dollars usable

23   toward health insurance.                And then, you the person,

24   can choose -- of course, with help from advisors and

25   potentially even from government, whether you want to

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1    obtain that insurance as an individual, whether you

2    want       to    work    for    an    employer      who    helps     arrange

3    insurance for all the workers, whether you might want

4    to choose to buy it, if an option was created for a

5    plan created by government, as a kind of fall back

6    option.

7                     And then that credit would be very large for

8    very poor people.            It basically would be the cost of a

9    decent plan.            Of course, getting consensus of what

10   that is, is tricky, but assume we can.                      And then, as

11   income rises, the value of that credit would fall.

12   And I guess I'm in favor of trial and error here since

13   research isn't definitive, although I think it would

14   be helpful.

15                    If you offer a schedule of credits and you

16   still have some people choosing not to have health

17   insurance, a large number, then that would mean you

18   need to increase the credit for their income bracket,

19   whatever it is.            I think, if you want to go literally

20   to universal coverage, I think you would have to go to

21   mandated insurance purchase.

22                    CHAIRMAN BREAUX: I've got a question.                      You

23   could add an individual mandate for low-income people?

24                    MR. PAULY: Right.            Then, in some sense, a

25   lot of these tricky questions go away because the

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1    credit           or     the     net     payment     for      the       insurance

2    effectively isn't taxed by any other name.                               But you

3    still certainly could create a wide range of options.

4     So      my      general      view     would   be   to      use       credits      or

5    vouchers as the device to help people afford health

6    insurance.              We know that some of the uninsured are

7    uninsured because their incomes are just so low they

8    can't afford it.

9                      We also know, as you may have noticed in my

10   table there, there are a number of the uninsured that

11   are not that poor.               But, for them, insurance isn't --

12   we presume, if they're being rational about it, the

13   Evil Knievels of health insurance -- that they think

14   it's not a good deal for them and it might not be.

15   But, by lowering the net price of insurance through a

16   credit,          you    ought    to     be   able   to      induce      them       to

17   purchase too.

18                     CHAIRMAN BREAUX: Thank you.               Gene?

19                     MR. STEUERLE: I'd like to reinforce almost

20   all     of       what    Mark    said    but   maybe      add     a    couple      of

21   additional comments.                  I believe that this country has

22   moved into a fiscal period partly because of deficits,

23   partly because of baby boomers starting to age, where

24   it's no longer possible for us to buy our way to

25   additional solutions.

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1                       In the area of healthcare essentially for

2    the most part, we essentially added on                              -- on the

3    spending side -- added on tax breaks, constantly tried

4    essentially to be on the give away side of the budget.

5     And I           understand the political impotence to do that.

6     But I think the dilemma facing this Commission as

7    well as the Congress as well as all the systematical

8    funds we're starting to face is that we really have to

9    start facing up to the fact that we're going to have

10   to recognize who pays and how do you buy into it.

11                      I don't think, for instance, that we could

12   just, at this stage, add a credit onto the system, at

13   least a credit of any size that gets us to national

14   health insurance.               And so we have to think about how

15   to increment, from the current system, taking account

16   both the issue of giving credits, if we can go that

17   route, but also who's going to pay.

18                      I    think   there's     two    ways      to   think      about

19   who's going to pay in the health area.                        One of them is

20   we     can        cap    the    value     of     the   employer         provided

21   exclusion.               Admittedly,        it    would       provide        rough

22   justice, and I will have to admit this is an area that

23   would not simplify.               But it is such a bad subsidy it's

24   increasing the number of uninsureds.                         It's one of the

25   worst subsidies we can possibly imagine.                                 It's so

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1    inequitable that it seems to me there's a case for

2    capping it to provide some revenues.

3                     The second thing we can do is, even if we

4    can't go all the way towards a mandate -- and I think

5    the fall of the Clinton healthcare plan was always

6    that it went to a employer mandate to hide it because

7    a mandate is on individuals.

8                     And health insurance has gotten so expensive

9    it's pretty hard to talk about mandating that people

10   buy a $5,000 health insurance policy.                         But you can

11   gradually increase the wedge between buying and not

12   buying health insurance by not only giving a small

13   subsidy on one end, but perhaps taking away a few tax

14   benefits on the other.

15                    So that for taxable taxpayers, which we're

16   going to exclude the poor, you could say, well, maybe

17   we ought to think about things like denying personal

18   exemptions        or    denying        other   certain      benefits      if       a

19   family doesn't, at the end of the year, at least send

20   some declaration that they have health insurance.                            So,

21   that      way,    you    work     on    both    ends,      both   trying       to

22   increase the subsidy but recognizing that somebody's

23   going to pay by putting by on this mandate.

24                    I don't have time to go there, but it seems

25   that that's a lot of issue, social insurance.                                  If

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1    we're going to fall back on other taxpayers when we

2    become sick or unhealthy, that's sort of a horizontal

3    equity issue.

4                          If you're paying for health insurance and

5    I'm not and we have equal incomes, that's not a fair

6    system.           And it seems to me that it is fair to mandate

7    that I at least contribute something or that I bare

8    some        responsibility            for     not     buying      insurance,

9    especially if I'm at middle income levels.

10                         MR. PAULY: One comment on that.            I think I'm

11   a little more optimistic than Gene in the short run.

12   $190 billion, well, half of that would probably be

13   enough           to    provide    a   pretty     decent      system     of     tax

14   credits.              If Congress was willing to do it, take away

15   the subsidy for my glasses, and you could pay for the

16   uninsured.

17                         But the longer term prospects, of course,

18   for Medicare and for the healthcare system as a whole,

19   are much more daunting.                     And I thought actually we

20   could have probably quieted the kids down out there by

21   just giving them a brief lecture on the future of

22   payroll taxes for Medicare and Social Security.                              But,

23   more generally, I think the serious debate that we

24   need to have both socially and politically has to do

25   with what is going to be our policy toward quality

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1    improving but definitely cost increasing healthcare in

2    the future.

3                      And that's why I favor making any vouchers

4    closed-ended so that, at the margin, people are paying

5    with their own dollars when it comes to not just

6    lifestyle drugs, but also new technology, which is as

7    wonderful as it is.              I think, rationally, it has to be

8    compared with the cost.

9                      CHAIRMAN BREAUX: Well, thank you.                     If Mark

10   or      Gene          would    have    some      reading         material         on

11   suggestions that we could get that would go into the

12   concept          of    using    the    tax    code       to   encourage         the

13   acquisition of health insurance?                     This is a different

14   approach than doing health savings accounts and all of

15   the other matters that are out there right now that

16   have the popularity today and effectiveness is still

17   open       for    question,       I   think.         I    very    much      would

18   appreciate to receive anything like that from you all.

19    It would be helpful. Okay?

20                     CONGRESSMAN FRENZEL: Gene, we had a number

21   of people testifying about the good effects of the

22   EITC.        In your testimony, you sort of jerked us back

23   to reality with the questions or problems of non-

24   compliance            administration         monitoring       effectiveness.

25   Is there any way to administer that program without

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1    creating a new welfare department within the IRS?

2                      MR.      STEUERLE:        Well,       let    me      just        say

3    actually, as some of the previous panels did, I think

4    actually the IRS's recent efforts, not necessarily the

5    historic ones, I think have been a real step in the

6    right direction.               One reason it's taken us so long to

7    get there, it goes back to the other comment I made in

8    my testimony.               For the most part, we don't monitor

9    programs.           The IRS didn't monitor what was going on

10   until finally getting pressure from Congress or other

11   people to finally try to figure out what was going on.

12    I think that applies beyond the Earned Income Credit.

13                     Is there a easier way to monitor it?                          Well,

14   again, if we think of something like a child credit

15   that's           flat    and      doesn't    depend       so   much        on      the

16   structure of the family, then some of the errors that

17   go with whether you're a combined household or you're

18   not a combined household or you got the mother living

19   or the mother not living there, if we get a certain

20   amount of credit no matter what, then some of those

21   errors just go away on that account.

22                     In the end, I'd have to say, though, I don't

23   know a simple answer to your question, Bill.                                       One

24   reason I think we went to the Earned Income Credit, in

25   part,        was        because     we   were      so    dissatisfied            with

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1    welfare.          It   was    part     of    Russell          Long's    original

2    intent, and he wanted to start getting to the world of

3    subsidizing wages.                And I think we've sort of moved

4    into      there.       And    the     IRS   is     in    that     game       mainly

5    because it gets the W-2.

6                     I mean we could argue about lobbyists not

7    loving the tax system.               I think, in the case of Earned

8    Income Credit, I'd have to say it probably does belong

9    there mainly because I just think the

10   W-2 goes to the IRS, and they're probably a better

11   agency at trying to deal with it.

12                    CONGRESSMAN         FRENZEL:           But     you       support

13   previous testimony suggesting that we consolidate some

14   of those credits?

15                    MR. STEUERLE: Well, I would consolidate some

16   other       things.         I'd    consolidate          the    Earned        Income

17   Credit and the Child Credit.                 The biggest problem with

18   consolidation          of    all      of    them    is        they     all     have

19   different age limits.

20                    CONGRESSMAN FRENZEL: Yes.

21                    MR. STEUERLE:          Some of them, for instance,

22   start with -- some of them go to college kids.                                   And

23   there's really a question why we want to aid kids

24   going to college.             Do we want to do it through these

25   types of subsidies whether it's through Pell Grants or

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1    something else?               So you have to do with that win or

2    lose aspect of it.                   But I think consolidating the

3    Child       Credit      and    the    Earned     Income     Credit       is     the

4    easiest.

5                      Consolidating the dependent exemption, Child

6    Credit, and Earned Income Credit is one I'd like to

7    think        about      doing.        In    part,     because          it's     the

8    dependent         exemption      issues      that,    say,       are    sort      of

9    totally at the different end of the income spectrum,

10   but it's already facing you in spades because it's so

11   dominant in the Alternative Minimum Tax, so you're

12   sort of facing it anyway.                  So my focus would be to try

13   to think about some unified credit, in part, to make

14   very transparent with what's going on with all these

15   children's benefits.

16                     CONGRESSMAN FRENZEL: Thank you.

17                     CHAIRMAN BREAUX: Well, gentlemen, we thank

18   you so very much for your presentations.                         You've given

19   us    a     lot    to   think    about      as   have      the   other        panel

20   members.

21                     We want to thank the Children's Museum for

22   hosting our meeting here today.                      I think it's been a

23   good location.                We're reminded that we make public

24   policy for the people that have been stepping all over

25   us today, but that's what it's all about.

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1                     We thank all of our staff for the good job

2    that they've done in helping coordinate this meeting

3    today, and this Panel will now stand adjourned.

4                     (Whereupon,       at        12:44      p.m.,          the

5    above-entitled matter concluded.)





















                                  NEAL R. GROSS
                          COURT REPORTERS AND TRANSCRIBERS
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