II. REASONS FOR REVENUE PROVISIONS

The Tax Equity and Fiscal Responsibility Act of 1982 has four principal objectives: to raise revenue as part of an effort to narrow the unacceptably large budget deficits which would result from a continuation of current spending and tax policies, to ensure that all individuals and businesses pay a fair share of the tax burden, to reduce the distortions in economic behavior that result from the present tax system, and to increase the extent to which those responsible for specific Federal Government spending pay the costs of that spending. The committee believes that this bill will make a major contribution to each of these goals.

Revenue needs

Early this year, it became clear that, in the light of the recession, high interest rates and the decline in inflation, continuing present spending and tax policies would result in unacceptably large federal budget deficits. Projections by the Office of Management and Budget and the Congressional Budget Office indicated that federal deficits, if current policy did not change, could reach $182 billion in fiscal year 1983, $216 billion in 1984 and $233 billion in 1985. By 1985, at a time when the economy is expected to be prosperous, the Federal deficit was projected to be 5.6 percent of gross national product-the largest deficit in peacetime history.

Such deficits would have extremely serious consequences. First, a stimulative fiscal policy and the restrictive monetary policy with which the Federal Reserve is attempting to control inflation could lead to continued very high interest rates. These interest rates would reduce business investment, make it difficult for all but the most affluent Americans to acquire their own homes, and cause the bankruptcy of many businesses, both large and small.

Second, large deficits and high interest rates would greatly increase the costs of servicing what would become a crushing burden of the national debt. Outlays for interest on the debt have already grown from $52.5 billion in fiscal year 1980 to an estimated $86.0 billion in 1982, or from 2.0 to 2.8 percent of GNP. The current policy budget projections of OMB and the CBO are that this debt service burden would grow to $147.1 billion in 1985, or to 3.6 percent of GNP. Third, large deficits could put pressure on the Federal Reserve either to pursue very tight monetary policies or to accommodate the deficits (96)

with a monetary expansion that could rekindle double-digit inflation. Fiscal restraint would permit the burden of fighting inflation to be spread more evenly throughout the economy.

Third, large deficits would imply a lack of control by Congress over government operations and fiscal policy, which would cause uncertainty among those making financial and investment decisions.

The first congressional budget resolution for fiscal year 1983 contains an integrated set of spending and tax policies designed to bring these deficits under control. The resolution provides for revenue increases of $20.9 billion in fiscal year 1983, $36.0 billion in 1984 and $41.4 billion in 1985. The committee's bill is consistent with these revenue targets.

It should be noted that these revenue increases are modest in relation to the tax reductions enacted in the Economic Recovery Tax Act of 1981. That bill provided tax reductions, broadly distributed among individuals and businesses, of approximately $88 billion in fiscal year 1983, $140 billion in 1984, and $190 billion in 1985. Thus, the targeted revenue increases provided for in the budget resolution and the committee's bill are only about one-fourth the size of last year's tax cuts. Tax equity

A widely accepted goal of tax policy is that the tax burden be distributed fairly, in accordance with people's ability to pay. This is particularly important in the United States, where tax collection relies heavily on voluntary compliance. Several studies show that taxpayers are more likely to comply voluntarily with the tax laws if they believe that similarly situated taxpayers are bearing a comparable

share of the tax burden.

Unfortunately, over the past several years, the trend has been towards less equity. Dozens of special deductions, exclusions and tax credits have been enacted, and while these generally serve a worthwhile purpose, their cumulative effect is to make the system less equitable and more complex. This bill attempts to reverse this trend by scaling back or repealing those tax preferences which are no longer needed or which can no longer be justified in the light of the present budgetary situation.

The most blatant inequity occurs when some people take advantage of our voluntary compliance system to evade the tax laws. Statistics prepared by the Internal Revenue Service indicate that noncompliance with the tax laws is growing, and it is becoming an extremely serious national problem. It would be grossly unfair to ask the majority of honest Americans to pay more taxes unless every reasonable effort is being made to make sure that tax evaders comply with the law. The cuts in marginal tax rates enacted last year, and the provisions of the committee bill which create a more equitable distribution of the tax burden, will contribute to improved compliance. However, the committee believes that more direct action is needed to deal with

this urgent national problem, and the bill contains provisions to improve both the withholding and information reporting systems.

A key goal of the committee was to achieve the revenue targets in the budget resolution through tax changes which improve tax equity, rather than to achieve them through broadly based tax increases, such as increases in marginal individual income tax rates or taxes on energy consumption.

Economic distortions

In recent years, there has been considerable discussion and analysis of the various ways in which the tax system distorts economic behavior in the private sector and the impact of such distortions on economic growth. Much of this discussion has focused on how these distortions might be alleviated by tax reductions; and the 1981 tax reduction was a major step towards this goal. However, it is also possible for economic distortions to result from overly generous tax incentives. The committee has reviewed existing tax incentives with this in mind, and the bill scales back several of those which, in the committee's view, are so generous that they create, rather than reduce, economic distortions.

One example of tax benefits which are overly generous is that the combination of accelerated depreciation and the investment tax credit provides tax benefits which, in many cases, is more generous than deducting the cost of equipment in the year it is placed in service (expensing). Such treatment can encourage businesses to purchase equipment which would not be profitable on a pre-tax basis. The basis adjustment in this bill should reduce the combined benefits of depreciation and the credit to the point that they are approximately equivalent to expensing under conditions presently prevailing in the economy. The present safe-harbor leasing provisions, which are substantially modified in the committee bill, also can lead to incentives to make uneconomic investments.

Other examples of tax incentives which create economic distortions, and which the committee bill repeals or modifies, include the tax treatment of original discount bonds, tax-free dividend reinvestment for public utility stock, industrial development bonds, the tax treatment of mergers and acquisitions, the tax treatment of life insurance, and the completed contract method of accounting. In each of these areas, the committee bill is able both to raise revenues and to improve economic efficiency.

Allocation of the costs of government

A recurring issue for any democratic society is determining the appropriate level of government services. One way to deal with this problem is to raise revenues through user taxes, so that those responsible for government spending pay for that spending and, therefore,

do not create an excessive demand for government spending as a result of a disassociation between costs and benefits. For example, 80 percent of Federal retirees age 65 or over receive Medicare, even though they make contributions during only part of their careers; the typical private sector worker makes contributions over his entire career. Thus, the bill subjects Federal employees to the Medicare portion of the social security tax. Similarly, unemployment benefits are supposed to be financed by a payroll tax on employers, but tax revenues have been insufficient so that the unemployment benefit system has had to borrow substantial revenues from the Treasury, that is, from general taxpayers. Therefore, the bill increases both Federal and State unemployment taxes. Likewise, the taxes applying to aviation users are also increased to ensure that users, rather than all taxpayers, pay for a greater share of the expenses of developing the airport and airway control systems. Thirteen percent of the revenue raised by the bill comes from these provisions aimed at those responsible for specific government spending.

III. BUDGET EFFECTS OF THE REVENUE PROVISIONS

The revenue provisions of the committee bill involving statutory changes are estimated to increase net budget receipts by $18.8 billion in fiscal year 1983, $31.8 billion in fiscal year 1984, and $41.5 billion in fiscal year 1985. Together with the additional revenue anticipated from IRS staff increases, the committee bill raises $20.9 billion in 1983, $34.2 billion in 1984, and $43.9 billion in 1985. This achieves the revenue increase target of $98.3 billion for the three fiscal years 1983-1985.

Table 1 is a summary of the estimated revenue effects of the tax provisions of the committee bill for fiscal years 1982-1987 for the major categories of the bill.

Table 2 shows the estimated revenue effects of the specific tax provisions of the committee bill for fiscal years 1982-1987.

'The Administration budget requests additional IRS staff, which it believes will raise revenues by $2.1 billion in fiscal year 1983, $2.4 billion in 1984, and $2.4 billion in 1985. The legislative history of the First Concurrent Resolution on the Budget for Fiscal Year 1983 indicates that the revenue target in that resolution assumed that these staff increases would take place.

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