Given that prospects for tax reform were virtually nil before the election, the Republican recapture of the Senate has to have made prospects for tax reform better. But I still have the strong sense that tax reform will be a tough slog in the next Congress.
Let’s start on corporate side. It is often noted that both President Obama, in his budget proposals, and then-House Ways & Means Chairman Dave Camp, in his sweeping tax reform proposal earlier this year, want to reduce the corporate tax rate. So far so good. There are only two problems. The first is disagreement about what cuts to corporate tax expenditures or other items (like interest deductions) should be made. The disagreements aren’t so much between liberals and conservatives as among different segments of the business community. Choices about corporate base broadening used to finance rate reductions will pit different sectors of the business community against each other. The biggest obstacle to business tax reform is the business community itself. If business could unite on a proposal that reformed taxes on corporations and other businesses and paid for itself, that would be a powerful force in moving options forward. But it seems unlikely.
The second obstacle is the treatment of foreign source income. Here, Rep. Camp (who won’t be leading the Ways & Means Committee in the new Congress anyhow) and many Republicans would like to see a territorial system – one in which foreign income is not taxable and foreign costs are not deductible. The President would like to move toward a true world-wide system, where all income, wherever earned is taxable, and all costs, wherever created, are deductible. Everyone agrees that the current system, which tries in an extraordinary clumsy way to provide aspects of both views, is a failure, but there is deep disagreement about which direction to head.
On the individual tax side, the response to Rep. Camp’s proposals last year says it all. Camp wanted to severely cut back on tax expenditures and a variety of other base-narrowing provisions and use the revenue to reduce rates. His proposals went nowhere. John Boehner’s famous response – “blah, blah, blah” – indicated the lack of Republican enthusiasm. If Camp’s or a similar proposal to pare deductions does actually gain steam, one can expect significant opposition from all of those whose benefits would be on the chopping block.
And, let’s not forget that President Obama raised the top income tax rates in 2013 – or, if you prefer, he allowed the lower rates established under President Bush to expire. Either way you look at it, it seems unlikely that he will want to sign legislation that reduces the top rates. But the main reason the Republicans want to broaden the tax base is to lower rates. So, again, an impasse.
Rather than actually enacting tax reform, it seems much more likely that the sides will fight about whether to use dynamic scoring methods that account for macro economic feedback in response to tax changes. While it may seem obvious that the Republicans can implement such changes, given they will control both houses of Congress, it is nowhere near a slam dunk, as there appear to be a number of procedural obstacles that have to be dealt with. And dynamic scoring raises as many economic issues as it resolves.
It is a good bet that the new Republican Congress will continue to talk about tax reform. That is safe ground for Republicans generally. And, of course, seemingly impossible things do sometimes happen. But I wouldn’t bet on tax reform.
Will the American business community sit idly by and watch Trump undertake a trade war with China? They have a lot at stake in this. [Trump's stream of anti-Chinese Tweets poses risks of being misunderstood.] China would regard a potential challenge as more dangerous than it actually might be.