ataxingmatter

Krugman on Rising Corporate Profits, Falling Worker Wages

In Paul Krugman's op-ed today on "Another Economic Disconnect" in the New York Times at A23 (again, available electronically for free only to those with a Times Select subscription), he discusses the anomaly of rising corporate profits and falling worker wages.  What's good for corporate America may be good for investors and managers who are able to make out with lucrative stock options, but it doesn't appear to be very good for the workers whose median "earnings, adjusted for inflation, haven't gone up at all since the current economic expansion began in 2001--the economy feels anything but great to most Americans."  Id. 

But that profits-wages disconnect is just one of the weird results of the lopsided markets operating in the US today.  Our economic news reveals something unlike what the Bush economic team said was going to happen as a result of its "pro-corporate, anti-labor tilt"--a "profits gusher" that is producing an investment "trickle."  Id.  Corporate profits have doubled since 2000 while nonresidential investment "remains fear below its levels of the late 1990s, and it has been declining for the last two quarters."  Id.

Krugman notes that the explanation may be merely business pessimism--"sluggish business investment reflects lack of confidence in the economic outlook".  But he suggests it may also be due to a more disturbing development--"companies [use] profits to buy back their own stock ...to produce a temporary rise in stock prices that increase the value of executives' stock options, even if it is against the long-term interests of investors."  Id.  Whatever the reason, the consequences may be long-term:  a stalling of productivity growth and a significant impact on the economy.

Interestingly, the Times op-ed page has a central graphic that shows piggy banks gushing out of the US towards the Caribbean.  Maybe the cartoonist was riffing on the Morgenthau op-ed "Who's Watching Your Money?" urging Congress to permit state regulation of the banking industry rather than leaving us with one single easily captured federal regulator (the comptroller's office) that is financed almost entirely by the banks it oversees.  (See my own riff on that, below.)  But the cartoon is equally applicable to Krugman's piece.  Much of that corporate profit is being paid to investors and managers who put the money in offshore hedge funds and overseas equity investments rather than investing it in U.S. industry.  Maybe the cartoon should also show some piggies returning to the US, but with solid strings attached to their mother countries representing the increasingly large US debt burden financing those capitalist profits.  That's the third economic disconnect--the outflow of investors' and managers' outsized capital returns (that were facilitated by administrative anti-tax, anti-labor, pro-corporate policies) to other, more lucrative markets, coupled with the deficit-funding inflow of burdensome US debt funded by China, Japan, the UK, and those island tax haven countries, among others.

(ASIDE:  The bank problem is a real one.  Banks, insurance companies and other financial institutions are especially adept at working the system for their own benefit.  Being able to capture regulators just adds to their power.  Look at the way the US Congress has handled student loan programs--direct subsidy loans cost taxpayers much less, but banks have been able to get the Congress to put most of the money in loan programs where Universities do the adminstrative work and banks get a government guarantee.  Not a bad deal for the banks (no real losses to deal with, high interest rates so high returns, and little effort).  Not a good deal for the students.  And, have you ever been charged 32% interest on a credit card for being one-day overdue when the bank randomly changed its due date and you didn't notice?  They seem to be doing that more now, I hear from my student and just-out-of-student-status contacts.  How about those fat "processing fees" and "administrative charges" and on and on that banks charge for mortgage closings?  And then there're the banks that charge high interest rates immediately when interest rates rise, but lower their deposit interest to .25% when interest rates go down and then keep it low for a very very long time after interest rates rise.)

Related Blogs of Interest: M&A Law Prof Blog

As many of my readers know, this blog generally restricts coverage to tax, budget and distributional issues that come within the broad scope of what I call "democratic egalitarianism".  But every once in a while I wander somewhat abroad, if it seems there is something worth pointing out that may get lost in this rapidly ballooning blogosphere we inhabit.  So on this wonderful spring weekend, for those who haven't yet found the new Law Prof Blog entry, I note the entrance of my colleague at Wayne State, Assistant Professor Steve Davidoff, into the blogosphere.  His blog on corporate mergers and acquisitions (and the private equity and securities markets generally) is M&A Law Prof Blog. 

Small Business and Work Opportunity Tax Act of 2007: "Compensation" for Businesses

Citizens for Tax Justice (CTJ) has a note on the tax cut bill attached to the minimum wage attached to the war spending bill that the House and Senate have passed based on the Baucus-Rangel agreement. Note the language in the Ways and Means release:  "tax relief so our small businesses can continue to hire new workers and promote economic growth in our communities."  As though these businesses would fall apart if they all paid everybody not even $8.00 an hour for their labor without almost $5 billion over 5 years in tax breaks to make it possible, in addition to the hundreds of billions in business tax breaks they've received over the last ten years. 

We cut taxes to give tax "relief" to big business and its wealthy owners (in the form of everything from reduced Subpart F taxes for multinationals and big banks to hugely reduced capital gains taxes on the main sources of income of most of the ultra-wealthy owners and managers of those multinationals and banks), so we borrow money to pay for government programs that can't be funded because of the tax cuts for the rich, so the Japanese and British and Chinese who own lots of our debt start to put more of their dollars into Euros so we won't be able to borrow money at this rate indefinitely, so we talk about cutting social insurance programs like Social Security and Medicare and Medicaid so we can pay for the tax cuts we gave to the rich.  We decide rightly that we really ought to ensure that those who labor earn something less short of a living wage than they currently do so we decide to raise the minimum, but we can't do that without providing more tax "relief" to business (oh, this time it's "small" business--like those regional banks that get the break of being able to operate in (tax-cheap) S-corp form even though their managers have lots of special types of restricted stock.....).

Doesn't this sound like something from that old nursery rhyme about "The House that Jack Built"?  Doesn't that very structure bring into question the process by which policy seems to be made these days in Congress--the backscratching isn't just the rather lamentable tradeoffs of one Congressperson's important goal to achieve traded for another Congressperson's important goal to achieve (presumably, in each case, on behalf of a reasonable segment of their constituents) but rather the ability of business to hold up for tax ransom anything to be done on behalf of those that are typically disempowered by our society (often by the actions of those very businesses who hire and then fire their workers as so many disposible commodities).  After all, isn't it a form of exploitation when companies like Wal-Mart can hire experienced adult workers for very low wages with very few benefits in spite of the company's steady profits and global clout against suppliers that have contributed to the enormous wealth of each of the Wal-Mart heirs (worth, as I recall in the billions apiece)?  Yet it now appears that businesses have the right to demand "compensation" whenever government acts to protect ordinary Americans from exploitation by those who are making the most money out of a growing economy. 

See the following excerpt from CTJ's eNewsletter, with CTJ links intact.

While the new $4.8 billion level that both Baucus and Rangel have agreed to is a breakthrough, it is nonetheless disconcerting that several Senators on both sides of the aisle seem to believe that business should be "compensated" for raising the minimum wage from its lowest real purchasing power in 50 years. As we've pointed out before, business has received $273 billion in tax breaks since the last minimum wage hike in 1996. Remarkably, some members of Congress who are hostile to minimum wage legislation, such as Charles Grassley (R-IA), are actually complaining that the tax breaks are not big enough.

Paul Krugman on the New Gilded Age

I've written extensively on this blog about the increasing economic inequality of American society and the substantial harms that will likely result from that inequality.  Paul Krugman sounds a similar alarm in today's New York Times opinion page, Gilded Once More (regrettably, available without extra charge only to TimesSelect subscribers).

Krugman notes that in the first Gilded Age, we measured decadence by the extent to which millionaires like John D. Rockefellar eclipsed the fortunes of the average Joe.  By that metric, today's age might best be called the Super Gilded Age. 

We know what John D. Rockefeller, the richest man in Gilded Age America, made in 1894, because in 1895 he had to pay income taxes. ... His return declared an income of $1.25 million, almost 7,000 times the average per capita income in the United States at the time.

... Last year, ..., James Simons, a hedge fund manager, took home $1.7 billion, more than 38,000 times the average income. Two other hedge fund managers also made more than $1 billion, and the top 25 combined made $14 billion.

How much is $14 billion? It’s more than it would cost to provide health care for a year to eight million children — the number of children in America who, unlike children in any other advanced country, don’t have health insurance.

Back in the first Gilded Age, there was considerable unrest among the average people suffering from low wages, poor working conditions, lack of health care, and lack of care for the elderly and children.  FDR's New Deal was a big deal response that won majority support in a major effort to address real needs.

Why aren't those issues predominant in the news today?  Krugman provides one answer--our still-progressive income tax system; the estate tax, which generates at least some income from the extraordinary wealth accumulated at very low income tax rates by the upper crust of today's society; and "social insurance programs like Social Security, Medicare and Medicaid, which provide a safety net for the less fortunate." 

But Krugman also cautions that these ameliorating mechanisms have been eroded significantly over the last three decades, rather than being enhanced as one might expect would be the response in light of the increases in wealth and income inequality.  In other words, tax cuts in the Bush years have funneled the most relief to the upper classes, the estate tax has been made less and less potent (you now have to be a many-multiple-millionaire before you pay any tax at all, so the effective tax rate ends up being very very low--around 14%, and the Bush proposal would have eliminated it entirely permanently rather than for just one year); and the social insurance programs are under constant attacks pushing for their elimination and/or privatization (which, I might add, in most of the ways that matter is equivalent to their elimination).

I'd add another answer.  The "greed is good" attitude that is supported, in large part, by the limited vision of society pushed by the Chicago School of Economics, which reduces all that is good to wealth maximization and makes decisions using a utilitarian cost-benefit analysis that seems to always weigh the status quo of the have-mores more heavily than the future well-being of the have-nots.  And there's the "me, myself and I" approach that is lauded by the libertarian think tanks like the Claremont Institute, Cato Institute, Tax Foundation and others.  Those groups tend to push arguments against estate taxation, suggesting that the wealthy have the right to die rich and leave their money to do-nothing heirs if they want to since it's "their money", and the state has no right to claim a portion of that wealth as payment for the many ways in which the state made it possible for the wealth to be accumulated in the first place.   They also tend to favor taxation of labor and non-taxation of capital, suggesting that the "liberty" interest they are most interested in protecting is the capitalist's property rights and not the laborer's decent standard-of-living rights.   

Krugman reminds his readers that the Gilded Age faced a determined opponent in the Progressive Era and suggests it is time for the New Progressives to take center stage.  I'd argue that the agenda needs to be one of democratic egalitarianism--a recognition that unbridled market forces will tend to perpetuate hierarchies of power and accumulations of resources at the very top of the pyramid, and that government best serves the people as a whole when it offers a counterforce to those tendencies through its taxation policies and its social welfare programs.

Small Business and Work Opportunity Tax Act of 2007 and sundry other items

News Flash:  The Senate has now approved, 51-46, the almost $5 billion in business tax breaks purportedly 'required' to finance the minimum wage increase, as part of the H.R. 1591 supplemental spending package expected to be vetoed by Bush because it includes an Iraq withdrawal timetable.  The House already approved the conference report ( Download hr1591.conf report.tx70794.pdf   ) yesterday with a 218-208 vote. 

One of the revenue raisers in the bill is Section 7546.  That provision increases the tax return preparer understatement penalty (from $250 to the greater of $1000 or 50% of the preparer income) and standards.  Under the bill's new standards, tax return preparers would be penalized for understatements due to "unreasonable positions" defined as positions that, if not disclosed, are not backed by a reasonable belief that the position is more likely than not to be sustained on the merits (what I have called the "MLTN" standard).    A "reasonable basis" standard would apply to disclosed positions. This would replace the current tax return preparer statutory standard of "realistic possibility of success" for nondisclosed positions and the regulatory provision that permits non-signing tax return preparers to recommend disclosed positions that are merely nonfrivolous, so long as the preparer advises the taxpayer that the position lacks substantial authority and that adequate disclosure could avoid a penalty. There will still be an affirmative "reasonable cause/good faith" defense.

This is a move in the right direction, though incomplete. I have written about the problems that lead to the prevailing tax minimization norm which in turn encourages to a race to the bottom in terms of aggressive tax reporting, as follows:

"The combination of limited enforcement resources, few audits in less time under weaker investigatory circumstances, and an ethical rule that supports advisors' alerting clients to audit lottery practicalities forces the conclusion that even enhanced disclosure requirements and stiffer penalties may not be sufficient to overcome an aggressive taxpayer's audit lottery advantage.  ...[T]hese problems are exacerbated by standards that govern taxpayers' return positions and tax advisors' planning advice and evidentiary privileges that affirmatively limit disclosure." Tax Advice Before the Return, 25 Va. Tax Rev. 583, 612 (2006).

I argued that it is inappropriate for tax advisers (and specifically, tax return preparers) to have lower reporting standards than taxpayers, and urged that Congress create a consistent more-likely-than-not standard applicable to both taxpayers and tax advisers.  The tax bill passed by the House and Senate would bring the disclosed position standard for tax return preparers into conformity with that required by taxpayers for non-shelter transactions under section 6662(d)(1)(B)(ii) (reduction in penalty where reasonable basis for disclosed positions).  However, a lack of congruity between taxpayer and tax return preparers would remain, since taxpayers are required to have substantial authority for non-disclosed positions taken, under section 6662(d)(1)(B)(i) (which is often interpreted to require something less than a MLTN standard requires), and are only required to satisfy both the substantial authority and the MLTN standard if they claim the reasonable cause affirmative defense for a reportable transaction under section 6664(d). 

So the penalty enhancement in the tax bill revenue raiser should increase compliance, at least somewhat.  Similarly, raising the statutory reporting standards for tax return preparers should discourage overly aggressive advice on behalf of their clients.  It would be best, however, to set a single, consistent standard for taxpayers and tax advisers/return preparers at the "more likely than not" level for all purposes.

News Flash2:   Taxes remain a relatively small portion of US economic output, compared to other countries.  Overall, taxes take about 25.8% of GDP in the US, ranking us very near the bottom of OECD countries, with only Korea and Mexico coming in with lower taxes.  Corporate taxes amount to only about 4% of GDP, and again we are at the bottom, with just Iceland and Germany below us. See Citizen's for Tax Justice (or Tax Prof for its excerpt showing the overall taxes chart).

Revised and extended: 4/26/07 5pm

Small Business and Work Opportunity Tax Act :JCT analysis released

Tax Bill:

Senate and House conferees approved the package of tax cuts for small businesses claimed to be needed to justify the added cost of paying a slightly better minimum wage. The tax provisions of the Small Business And Work Opportunity Tax Act of 2007 are included in the supplemental spending bill, H.R. 1591. According to BNA, Senator Baucus has already indicated that the almost $5 billion in tax breaks will stay in the supplemental bill even after Bush's expected veto because of the spending bill's troop withdrawal language. 

The Joint Committee on Taxation has now released its analysis: the technical explanation and revenue estimate. 

Tax Patents: Blend's Views

Incoming president of the ABA Tax Section Stanley Blend spoke at the U.S. Tax Court Judicial Conference on the 20th of April about tax patents.  Calling the idea of patenting tax strategies "a threat to the American tax system", Blend vowed to work to undo this new idea that tax strategies can be patented.

Blend is a partner at Oppenheimer, Blend, Harrison & Tate Inc. in San Antonio, Texas.  Before joining the firm in the early 1970s, he was with the tax court litigation division of the Internal Revenue Service in Washington.

For more information about tax patents, see earlier postings here and here, as well as the ABA Tax Section task force website.

Minimum Wage (and More Business Tax Cuts)

The House and Senate have agreed on a $4.8 billion tax-cuts-for-business price tag for the minimum wage increase.  While it seems wacky that Congress can't pass a much-needed minimum wage increase without even more giveaways to business (on top of all the giveaways business has received since the last tiny increase for low-wage workers), at least this agreement derailed some of the more absurd items that had been included in the doubly-sized original Senate package. 

Conferees are supposed to meet April 23, and the package is to be included in the supplemental spending bill H.R. 1591 conference report.  Here's what the agreement entails, as described in BNA's Daily Tax RealTime (April 20, 2007 7:52 pm).

The largest provisions are a 3 1/2-year extension of the work opportunity tax credit, including outmigration provisions backed by the Senate, and provisions helpful to S corporations, including an expansion of qualifying beneficiaries of an electing small business trust. The WOTC extension accounts for more than half the cost of the bill, at over $2.5 billion.

The package would also increase the tax code Section 179 expensing limits to $125,000 through 2008 and extend the limits to businesses in the Gulf Opportunity Zone. Other GOZone provisions would extend the enhanced credit for low-income housing and treat certain qualified GO Zone repairs or reconstruction as "qualified rehabilitation" for purposes of bond rules.

Josephberg Indictment Results in Conviction: shelters on top of shelters

Investment banker Richard Josephberg, once a securities analyst at Goldman Sachs, apparently thought he'd figured out how to have his millions and hide them, too.  First, he engaged in various tax shelters in the tax shelter boom of the late seventies and early eighties, promoting shelters through the Cralin Group til 1985 that resulted in more than one hundred million dollars of bogus losses being claimed by tax shelter investors (including, apparently, Josephberg and his Cralin partners).  The IRS claimed that Josephberg earned about $3 million in fee income and paid only about 1% of that amount in taxes, so it assessed Josephberg for $1.5 million in deficiencies.    Then, while continuing to make millions between 1995 and 2004, Josephberg thought he'd shelter his income again--what better way, he apparently thought, to avoid payment on old tax liabilities.  Those shelters involved nominee accounts under other people's names (including an infant) with control retained for himself, use of various corporate and partnership entities for personal expenditures, failing to file tax returns, and false claims about big losses.  All this is spelled out in the US Attorney's release about Josephberg's conviction yesterday (April 19, 2007) in White Plains on 17 counts of tax evasion. Download josephberg22_convicted.DOJ release.pdf   See also the indictment.  Download JOSEPHBERGindSUP2.indictment.pdf

Sentencing is scheduled for July 19.  59-year old Josephberg faces the possibility of years in prison.

Why is it that people who are making millions still think they "deserve" to pay less in taxes than is due?  We need to ask ourselves whether the anti-government and anti-tax rhetoric pushed by libertarian and so-called "free market" groups over the last few decades isn't doing considerable harm to the fiber of our society.   Isn't it time we acknowledge the importance of a sustainable tax system and put that priority right alongside all the "economic incentive" arguments that lopsidedly favor capital owners over workers, and multinationals over domestic industries?

Aside:   And along with that, shouldn't we include in our discussions an acknowledgement of the problems that result when globalized corporations and their owners and managers so dominate the discussion  that we disregard their lack of any loyalty to nation as well as the harmful effects of a focus on selfish individual wealth maximization as the only creed worth paying attention to?   See, e.g., Timmons, Harvard's Former Lightening Rod is a Hit in Asia (New York Times April 19, 2007) (discussing Summer's views on the problems of the US current account trade deficit and the possibilities of global recession); Greenhouse, Steelworkers and British Unions Seek Merger, New York Times April  19, 2007).   

“Multinational companies are pushing down wages and conditions for workers the world over by playing one national work force off against another,” said Derek Simpson, the general secretary of Amicus. “The only beneficiaries of globalization are the exploiters of working people, and the only way working people can resist this is to band together.” Id.

Tax fraud is a serious crime that undermines the entire tax system.  It cannot be tolerated, and tax practitioners, CPAs and others involved in helping taxpayers prepare their returns and plan their transactions for efficient tax outcomes need to keep in mind that there is a line they must not cross between reasonable tax planning and illegal tax evasion.  One good thing coming out of the recent visible pursuit of enforcement against powerful figures from the financial, legal and accounting world--like those at Brown & Wood and KPMG who promoted tax shelters and people like Josephberg who both promoted and took advantage of them-- is that people will see visible evidence that wealth does not ensure a protected position above the law.

Revised  4/20/07 3:30 pm

If you owe (back taxes), you can't play (in the government contractor game)

A bill was introduced in the House on April 17 that would, among other things, prohibit awarding of federal contracts to contractors who owe federal income taxes (reported in the April 19, 2007 6pm BNA Daily Tax RealTime).  That's one step beyond the recently released proposed rule, published in the March 30 Federal Register, requiring federal contractors to report if they are delinquent in paying federal taxes. GAO studies show that there are thousands of federal contractors with unpaid federal taxes aggregating about $7 billion. See this April 2, 2007 report on GovExec.com by Jenny Mandel covering both the proposed rules and GAO studies. 

According to testimony at today's hearing at the House Oversight and Government Reform Subcommittee on Government Management, Organization, and Procurement , more detailed investigations into 122 of those delinquent contractors has indicated "'abusive and potentially criminal' behavior" (reported in the April 19, 2007 6pm BNA Daily Tax RealTime, quoting  Forensic Audits and Special Investigations Managing Director Gregory Kutz).

We may not be able to completely eliminate the so-called 'tax gap', but we surely should be able to ensure that federal contractors do not continue to feed at the federal taxpayer trough while reneging on their own responsibilities to pay federal income tax.  This is a good move and one that should lead to enacted legislation, sooner rather than later.