Subject: Principles for Tax Reform Comment: PRINCIPLES FOR FUNDAMENTAL TAX REFORM SUBMITTED TO THE PRESIDENT’S ADVISORY PANEL ON FEDERAL TAX REFORM BY THE AMERICAN CHEMISTRY COUNCIL April 2005 The American Chemistry Council represents the leading companies engaged in the business of chemistry. Council members apply the science of chemistry to produce innovative products and services that make people's lives better, healthier and safer. Chemical manufacturing provides products and services that are essential to virtually all other manufacturing, from steel to microchips. Accordingly, the chemical industry has a primary effect on suppliers, customers, consumers and the U.S. economy. Chemical manufacturers invest more in research and development than any other business sector, and comprise the largest exporting industry. The Council commends the President’s Advisory Panel on Federal Tax Reform for undertaking the immense task of proposing fundamental reform of the U.S. tax system. We hope that this effort will result in the Congress and the Administration reaching a consensus with respect to a reform proposal that has, as its core principle, the long-term growth of the U.S. economy. Moreover, a fair, efficient and transparent tax reform proposal will attract foreign investment in jobs and the economy. We limit our comments to five principles that we think essential to discussion of tax reform and to the work of the Panel. (1) Tax reform should recognize that U.S. industry must compete globally in order to survive domestically, and that U.S. and foreign tax systems are elements of the competition. The chemical manufacturing sector cannot compete with foreign producers if it limits its production facilities and markets to the U.S. Long production times and high transportation costs require locating near customers or raw materials. The global market in commodities, specialty products, and technological services means narrow profit margins for all producers, thus mandating global economies of scale. Research and development and other global support functions must be spread over global operations to be efficient. U.S. companies could not compete in either U.S. or global markets absent the global sales volume, customer access and capital efficiency incident to global operations. A business tax regime that recognizes the imperative of global operations for U.S.-based manufacturers is no less a requirement for U.S. affiliates of foreign parent companies. Such companies locate manufacturing facilities in the U.S. so as to gain access to the U.S. market, creating U.S. jobs and economic growth in the process. The resident affiliates become U.S. taxpayers, with no less a need for a dependable and comprehensible tax regime as U.S.-home companies. (2) Business tax rates should be as low as possible, and under an income tax, the structure should prevent artificial inflation of income. In order to compete globally, U.S. business taxpayers must pay taxes at statutory and effective rates that are no higher than, and preferably lower than, those of foreign competitors. Such a rate structure not only allows an even playing field for U.S. home companies, but also encourages investment of foreign capital in U.S. plant, equipment and the workforce. Low statutory tax rates would encourage efficiency, investment and jobs in the United States. Low rates enhance competitiveness of U.S. companies, and reduce the need for other incentives and complexity. Further, in the case of a business income tax, accurate measurement of income requires a fair deduction of all ordinary and necessary business expenses.* (3) First year expensing of capital assets is the correct measure of economic income, and in addition, encourages investment in productive capacity that is the prime driver of economic growth. The closer an income tax system moves toward expensing of capital assets, the more accurate is the measurement of economic income. First-year expensing avoids both artificial inflation of income for the year of asset acquisition and artificial reduction in subsequent years. Thus, first-year expensing reflects a policy of accurate measurement of business income subject to tax, as discussed above. In addition to measuring income accurately, first-year expensing constitutes perhaps the prime incentive – necessary in light of foreign competition – for increased capital investment in U.S. productive capacity. As noted above, local tax systems are elements in the economic competition among nations. First-year expensing is a fundamental element in a competitive U.S. tax system. (4) As is the case with first-year expensing, a tax benefit for research and development is among those few incentives broadly acknowledged as directly achieving economic growth. A tax benefit for investment in research and development has become a fundamental policy goal in the current U.S. tax regime for good reason: Favored tax treatment, as embodied in the current R&D Tax Credit, promotes evolution of the U.S. economy and enhances its growth. Additionally, tax reform should recognize that the structure of the R&D Credit must award tax benefits consistently. Under current law, the credit may operate differently with respect to similar levels and patterns of research expenditures by different companies. This inconsistency may occur among different industries as well as among companies in the same sector. Chemical manufacturing is a case in point, regardless of the uniformly high level of research expenditures within the industry. (5) While tax reform should recognize simplicity as a desirable and laudable goal, a simplistic business tax could prove inconsistent with other policy objectives. When the business income tax appeared in 1913, it was the model of simplicity, reflecting an economy in which manufacturing organizations were largely domestic and had similar organizational structures. The complexity of the current business income tax largely reflects the evolving complexity of U.S. manufacturing businesses, and those of suppliers and customers. In the great majority of policy debates by the Congress, such increased complexity emerged as a means of treating different industries and businesses fairly. A reform proposal that overly simplifies the tax regime on business might produce inequitable results among industries and sectors of the economy. Any such simplistic business tax might fail to achieve the first four policy objectives discussed above. However, simplification that is fair and equitable is manifestly a policy goal to be sought. * * * The American Chemistry Council would be pleased to expand upon the principles outlined in this comment, or to answer questions concerning technical issues incident to calculation and return of tax, and to aspects of tax reform affecting separate issues of administration, taxpayer audit, and avoidance of controversies. |