Tax Reform and the Tax Treatment of Financial Products

Comments for the Record

United States Senate Committee on Finance

United States House Committee on Ways and Means

Tax Reform and the Tax Treatment of Financial Products

Tuesday, December 6, 2011, 10:00 AM

HVC-210 Capitol Visitor Center

By Michael G. Bindner

Center for Fiscal Equity

Chairmen Baucus and Camp, thank you for the opportunity to submit comments for the record on this topic. We will leave it to the invited witnesses to describe how current tax law treats financial products and will confine ourselves how such products might work under our tax and entitlement reform proposals. As you know, the Center for Fiscal Equity has a four part proposal for long term tax and health care reform. The key elements are

• a Value Added Tax (VAT) that everyone pays, except exporters,
• a VAT-like Net Business Receipts Tax (NBRT) that is paid by employers but, because it has offsets for providing health care, education benefits and family support, does not show up on the receipt and is not avoidable at the border,
• a payroll tax to for Old Age and Survivors Insurance (OASI) (unless, of course, we move from an income based contribution to an equal contribution for all seniors), and
• an income and inheritance surtax on high income individuals so that in the short term they are not paying less of a tax burden because they are more likely to save than spend – and thus avoid the VAT and indirect payment of the NBRT.

There is a great deal of literature on the tax treatment of financial operations under a VAT regime. We suggest that, should you wish to consider our proposal more fully, you invite these experts to testify. Some of these issues are particularly complex and their treatment would exceed the space allowed for comments.

From an investor point of view, how the financial instrument is treated in the tax code has less of an impact than the existence of a Value Added Tax and VAT-like Net Business Receipts Tax. Regardless of how the financial product is structured, once the cash is to be spent at the household level, taxes will be paid. This fact will likely diminish the demand for certain financial products, since tax avoidance will only go so far – particularly since we propose an income and inheritance income surtax floor of $50,000 for individuals and $100,000 for joint filers and qualifying widow(er)s.

The payroll tax provision also has no impact on the taxation of financial instruments. Of course, if the payroll tax component were used to facilitate a transition to union and employee managed personal retirement accounts holding insured employer voting stock, rather than broker managed Wall Street index funds, the need for and availability of financial products would diminish and eventually disappear as private investment provided more and more of the capital investment needs of industry. Additionally, employee-owned firms are more likely to offer credit products to their employee-owners in the areas of insurance, mortgages, consumer credit and retirement. Complex financial products to fulfill these functions will also decline in such a scenario.

We should probably not bring this fact up, as the army who get rich offering such products is likely to mount formidable resistance should our proposal ever be considered. We expect that this is why none of our comments have been given any attention by either revenue committee. Considering the hunger to restrict such paper wealth that is arising among the self-styled 99%, we don’t expect you will be able to ignore these ideas forever.

The tax benefits assigned to financial products may or may not be continued in the tax reform we propose, since our intent was to include very few deductions for our high income surtax. Whether this goal is accomplished is, of course, entirely up to the congressional revenue committees. Our hope is that you will close most loopholes so that high income taxpayers no longer spend perfectly good money to game the system. In the end, they would only be competing with each other and because interest on the debt and debt repayment would be funded by the surtax, any savings they get personally will simply add up to a tax burden on their children, rather than the next generation as a whole. Indeed, taxation at much higher rates would likely be demanded by such taxpayers once this fact became clear.

Thank you again for the opportunity to present our comments. We are always available to discuss them further with members, staff and the general public.