A group of mostly law school academics and one partner at a large law firm has written an important article highlighting some major problems with the current tax legislation. Here is the abstract from The Games They Will Play: Tax Games, Roadblocks, and Glitches Under the New Legislation
This report describes various tax games, roadblocks, and glitches in the tax legislation currently before Congress. The complex rules proposed in the House and Senate bills will allow new tax games and planning opportunities for well-advised taxpayers, which will result in unanticipated consequences and costs. These costs may not currently be fully reflected in official estimates already showing the bills adding over $1 trillion to the deficit in the coming decade. Other proposed changes will encounter legal roadblocks that will jeopardize critical elements of the legislation. Finally, in other cases, technical glitches in the legislation may improperly and haphazardly penalize or benefit individual and corporate taxpayers. This report highlights particular areas of concern that have been identified by a number of leading tax academics, practitioners, and analysts.
We have previously posted on the House and Senate versions of tax legislation, though have noted that for the most part the proposed legislation does not have many provisions that directly address tax procedure or tax administration.
I recommend this paper to our readers. It invariably follows that whenever there is tax legislation some very smart people consider ways to exploit the legislation’s ambiguities. For years, Congress, the IRS/Treasury and the courts are left to legislate, administer and adjudicate around the uncertainty.
Yet as the authors describe in this paper, the proposed Senate and House legislation presents gaming opportunities of a different scale. Consider two of the key domestic provisions, the lowering of rates on C Corps and the preferential treatment of passthrough entities. As the paper discusses, in the absence of major changes, or broad anti-abuse provisions that require an engaged and funded IRS, there are likely to be gaming and planning opportunities spinning off this that will keep the tax advice business fully employed.
For those who do not have the time to read the paper take a look at the Twitter feed of Tax Notes regular Martin Sullivan, who neatly summarizes the paper in a series of tweets (I list the first seven of these; his twitter feed has a bunch more):
- “Tax Games” Paper warning to Congress #1: Malpractice for advisors not to advise clients to use of C corps as shelter so interest otherwise taxed at up to 43.4% will be taxed at 20% under new bill
- “Tax Games” Paper warning to Congress #2: Malpractice for advisors not to advise clients to use of C corps as shelter so tax on dividends otherwise taxed at up to 23.8% will be taxed at 10% under new bill
- “Tax Games” Paper warning to Congress #3: Employees (presumably wealthy, who do not need immediate cash) can become C corps and instead of getting salaries taxed at regular rates can pay 20% tax now and defer or completely eliminate tax on distribution
- “Tax Games” Paper warning to Congress #4: Active business owners of C Corps can minimize taxes by paying themselves low salaries. Determining “reasonable compensation” is a judgment call fraught with controversy.
- “Tax Games” Paper warning to Congress #5: Taxpayer can put C corp in Roth IRA and, if payouts delayed to retirement, only pay total of 20% tax on C corp income.
- “Tax Games” Paper warning to Congress #6: Employees at service firms can form own partnerships and charge for services in lieu of salary. Then they receive 23 percent deduction (in Senate bill) on fees for service instead of paying full freight on wages.
- “Tax Games” Paper warning to Congress #7: Limits on doctors and lawyers and such qualifying for passthrough benefits can be avoided by splitting business into unqualified professional business and qualified business that provides services
Many of the House and Senate provisions will likely allow the well-advised to game the system. Less sophisticated employee/taxpayers will be left behind. The result will be more pressure on IRS/Treasury and the courts to police abuses and attempt to figure out who is on the right side of Congress’ largesse. So, while the proposed legislation may not have in the traditional sense many tax procedure and administration provisions it will, if enacted, be the most significant legislative development relating to tax administration for decades to come.
UPDATE: To see Martins Sullivan’s summary of the paper see here
Authors of Tax Games paper:
Reuven S. Avi-Yonah University of Michigan Law School
Lily L. Batchelder New York University School of Law
J. Clifton Fleming Jr. Brigham Young University – J. Reuben Clark Law School
David Gamage Indiana University Maurer School of Law
Ari D. Glogower Ohio State University (OSU) – Michael E. Moritz College of Law
Daniel Jacob Hemel University of Chicago – Law School
David Kamin New York University School of Law
Mitchell Kane New York University
Rebecca M. Kysar Brooklyn Law School; Fordham University School of Law
David S. Miller Proskauer Rose LLP
Darien Shanske University of California, Davis – School of Law
Daniel Shaviro New York University School of Law
Manoj Viswanathan University of California Hastings College of the Law