The FSC-ETI Bills Highlight the Need for Tax and Budget Reform
Revised July 6, 2004 for a minor editorial clarification and June 28, 2004 to remove an implication that the Voinovich tax reform commission would also consider budget reform.  (Originally published June 25, 2004)

Originally, the Foreign-Sales Corporation/Extra-Territorial Income (FSC-ETI) bill was about replacing a trade subsidy ruled improper by the World Trade Organization with a corporate tax cut.  However, the bills passed in the House and Senate are a bloated legislative mess.  If nothing else, the bills highlight the need for corporate tax reform, especially in the way
multi-national firms are taxed on income earned around the world.  A tax reform commission included as part of the Senate-passed FSC-ETI bill might help get the corporate and international tax reform process started. 

The legislative sausage-making process has created a worse-than-usual mess with the FSC-ETI bills.  

On the one hand, the bill has to pass soon -- otherwise U.S. exporters will be hit with ever-increasing tariffs.  Moreover, the FSC-ETI bills in both the House and Senate do close some tax loopholes, and the tax-writing committees have made a partial effort to "pay for" the various tax breaks included in the bills.

But the FSC-ETI bills illustrate the need for comprehensive budget and tax reform in several ways:

1.  The continuing misuse of "sunset provisions."   These provisions can make it seem like bills are properly paid for, when in fact there will be tremendous pressure in future years to extend the sunsets, raising the ultimate cost.

2.  The sheer number of unrelated provisions in the bills.  This reflects a dysfunctional Congressional process and an out-of-control tax code.  The fact that every lobbyist in Washington is desperate to insert unrelated measures into the must-pass FSC-ETI bill means they lack confidence Congress would otherwise consider their grievances or concerns (or even their ridiculous special pleas) under any sort of rational process.  The haphazard result -- loading hundreds of items on to "must-pass" bills like FSC-ETI -- is a disjointed, over-complicated, and unconsidered overall tax policy.

3.  The trade-related or international tax provisions.  These provisions -- including a provision allowing a temporary tax break for companies that "re-patriate" funds held abroad -- demonstrate that some sort of international corporate tax reform is necessary.

Figure 1 shows the estimated cost of the House-passed bill -- about $35 billion over ten years. The revenue losses are loaded up front, in the first couple years.  However, many of the revenue-losing provisions would sunset after a couple years.  If the sunset provisions were extended, the cost of the bill would be much higher.

Figure 1.



The Senate bill is ostensibly budget-neutral over the full 10-year estimating period.  But again, much of the revenue gain in the last half of the period is contingent on the presumption that sunset provisions are not extended (see Figure 2).

Figure 2.



The Congressional committee process has largely broken down.  Authorizing committees are increasingly irrelevant, but they still exist separately from the appropriators.  The duplication actually causes more confusion than clarity, and weakens the possibilities for careful deliberation and oversight of the spending process.  Spending is always a rushed-through process, which tends to lead to more spending, not less.

Meanwhile, the tax writing committees are overloaded.  The House Ways and Means and Senate Finance Committees also have responsibilities for trade and entitlement policy, including Medicare.  There is little time for much other than fire-fighting.  Few important reforms actually percolate up through the process -- among them, to be fair, some loophole fixes and international tax changes in the FSC-ETI bill. 

With only a few bills passed each year, everyone with an interest or a grievance needs to get their pet cause into the must-pass FSC-ETI bill.

For example, the list of items in the House-passed bill runs to 7 pages, despite the fine print used by the Joint Committee on Taxation (JCT) in the official revenue tables.  (JCT's final estimate of the House-passed FSC-ETI bill was released on June 22.) 

JCT's estimate of the Senate-passed bill includes 15 pages of provisions.

Some of these items are no doubt worthy, and some are interesting.  Others, like tobacco subsidies and temporary sales tax exemptions (both in the House bill), are simply there to purchase votes from legislators in certain states.

Finally, the international and trade-related tax provisions in the law highlight the need for larger reform.

First, the special lowered tax rates for manufacturers seem fair, because manufacturing companies lost their export subsidy.  However, differential rates for various companies are bound to cause confusion and further complications in the tax code.

Second, the very fact that some companies feel they cannot responsibly distribute overseas earnings back to the U.S. without penalizing their shareholders signals a need for some sort of reform.

To be sure, tax writers don't want to give firms an incentive to park funds in low-tax venues only to wait for the next "tax holiday" for re-patriating the funds.

But we want those earnings back in the U.S., don't we?  We should follow-up the temporary re-patriation in the FSC-ETI bill with a more thoughtful long term policy that ensures U.S. firms don't have an undue incentive to invest elsewhere.  

The tax reform commission (presuming it is included in the final compromise House-Senate bill) should start with a blank slate on the tax code and present Congress and the President with a much simplified and well thought-out alternative tax system -- especially for the corporate code -- by 2006.

Links:
Centrist Policy Network Sen. Voinovich's Tax Reform Commission Proposal (updated June 24, 2004)

Centrists.Org Where Will the Deficit Go From Here?  New Long-Term Budget Projections
(June 3, 2004)

Eugene Steuerle Contemporary U.S. Tax Policy Urban Institute (May 12, 2004)

Centrists.Org It's The Sunsets, Stupid!  CBO and JCT Should Show the Extended Cost of Expiring Provisions (May 3, 2004)

Centrist Policy Network Rep. Houghton's Tax Simplification Proposals (April 6, 2004)

Centrist Policy Network For Kerry, A Positive Move on Corporate Taxes (March 26,.2004)