Testimony of
                     Thomas M. Sullivan
                 Chief Counsel for Advocacy
             U.S. Small Business Administration
                              
                              
                U.S. House of Representatives
                 Committee on Small Business
                              
                              
                              
                              
                        July 23, 2003
                          2:00 P.M.
                              
 Assisting Small Business through the Tax Code-Recent Gains
                 and What Remains to be Done
               
Chairman Manzullo, Representative Velazquez and Members of
the Committee:

      Thank you for this opportunity to testify today.  My
name is Thomas M. Sullivan and I am the Chief Counsel for
Advocacy at the U.S. Small Business Administration (SBA).
Congress established the Office of Advocacy to represent the
views of small entities before Federal agencies and
Congress.  The Office of Advocacy is an independent office
within the SBA so the views expressed in this statement do
not necessarily reflect the views of the Administration or
the SBA.  My statement was not circulated within the
Administration for comment or clearance.

      You have asked that I testify regarding the tax relief
granted to small businesses as a result of the recent
enactment of the Jobs and Growth Tax Relief Reconciliation
Act of 2003 (the Jobs and Growth Act).  In addition, you
have asked for suggestions about what else needs to be done.
The Office of Advocacy takes its direction from small
business. With their help our team of economists and
regulatory experts seek to fulfill our statutory
responsibility to:
     determine the impact of the tax structure on small
     businesses and make legislative and other
     proposals for altering the tax structure to enable
     all small businesses to realize their potential
     for contributing to the improvement of the
     Nation's economic well-being. (1)
We welcome this opportunity to share small business' views
on the President's tax relief package of 2003 and additional
areas for improvement.

The Impact on Small Business of the Jobs and Growth Tax
Relief Reconciliation Act of 2003

      Advocacy promoted a number of the provisions in the
President's Jobs and Growth package and we were pleased with
the bill's emphasis on small business.  Many of the
provisions in the law received widespread support from small
business during Congressional consideration.  These
provisions will have a significant positive impact on small
businesses.

      First and foremost, the Jobs and Growth Act provided
useful changes in section 179 expensing that had been long
sought by Advocacy and the small business community.  The
new law increased the amount of equipment purchases a small
business can expense directly, rather than depreciate over
time, from $25,000 to $100,000.  In addition, the threshold
for phasing out expensing was doubled to $400,000.  Each of
these numbers will be indexed to inflation beginning in
2004.

      The Treasury Department had estimated that at least
half a million businesses would directly benefit from
expensing provision changes that were similar (though not as
generous) to those enacted.

      Section 179 has been very useful for small businesses.
Using 1999 tax data, 69 percent of the businesses that
elected to "expense"  their purchases were sole proprietors
and individual farmers (2.9 million businesses).  Expensing
simplifies capital purchases and has the effect of reducing
the cost of purchasing capital goods.  The increase in the
amount of purchases covered by section 179 should provide an
economic boost as businesses buy new equipment they would
otherwise forego.

      Additionally, first year "bonus" depreciation was
increased from 30 to 50 percent for investments acquired and
placed in service through 2004 and in some cases through
2005.  When combined with section 179, this creates a
substantial additional incentive for small businesses to
make their capital equipment purchases quickly.  Likewise,
equipment dealers and manufacturers benefit from the sale of
new, more productive equipment to these businesses.

      The Jobs and Growth Act accelerated most of the tax
cuts enacted in 2001 to take effect this year.  The top tax
rate for individuals, for example, was reduced from 38.6
percent to 35 percent.  The impact of individual income tax
rate cuts is widely felt in the small business community
since over 90 percent of all businesses are taxed at the
individual, not corporate, level.  For example, in 1998
there were 17.1 million sole proprietorships; 2.1 million
farm proprietorships, 1.9 million partnerships and 2.6
million S corporations all of which pay taxes on the
individual owners' return.  The Treasury Department
estimated that 23 million U.S. small business owners would
benefit under the Jobs and Growth Act and that 79 percent of
the $12.4 billion in tax relief from reducing the top tax
rate goes to small business owners.

      In addition, the maximum tax on capital gains and
dividends will each fall to 15 percent under the Jobs and
Growth Act.  For taxpayers in the 10 to 15 percent tax
brackets, the rate for both will be five percent until 2007
and zero percent in 2008.  The capital gains tax reduction
applies to gains realized on or after March 6, 2003, and to
dividends received in 2003 or after.  Capital gains tax
reductions and dividend tax reductions, which free up
capital otherwise held for tax reasons, increase the pool of
funds available for investment in small businesses.

      Earlier this month, employees received an increase in
their take-home pay reflecting the immediate implementation
of the lower tax rates in the Jobs and Growth Act.     And,
beginning this week, the Treasury Department will mail
advance payment checks reflecting the increased child tax
credit to approximately 25 million eligible families.  These
provisions will increase consumption and spur purchases from
small businesses.

What still needs to be done?
     Mr. Chairman, your panel today is full of talented
specialists.  Our office has worked with each of them
regularly over the years.

     Being tax experts they can dissect the minute details
of needed changes.  If I had to summarize in one point what
needs to be done to help small business, based on our
research, it would be this:  Simplify taxes for small
businesses as much as possible.  We should work to limit the
rollercoaster ride of changes and confusion that exist in
the Tax Code and make permanent key small business benefits.
     
     Simplicity is the Key - It was reported a couple weeks
ago that the number of regulations that have an impact on
small businesses was down by ten percent.(2) While I find
that statistic gratifying and I hope our office played some
part in that decline, I continue to have concerns about the
burden of tax regulations and tax compliance on small
employers.

     Tax compliance is a serious and costly problem for
small businesses.  Most businesses are very small.  Over 90%
of all businesses have fewer than five employees.  The
majority have no employees; they are simply run by the
family.  We know from our research that it costs businesses
billions of dollars each year to comply with tax laws and
regulations.  The Tax Foundation found that it costs small
businesses more to collect and keep tax records than they
pay in taxes.(3) A huge chunk of that cost is the time and
effort required for the owner to wade through and decipher
volumes of new tax laws and
regulations.  Many businesses find it necessary to hire a
tax expert to guide them through the tax maze, dig out the
required information and make the correct computations and
judgment calls.

     Our study on the federal regulatory burden in 2001
showed that tax compliance costs for firms with fewer than
20 employees was twice as much, per employee, as large firms
with more than 500 employees.  Tax compliance cost $1200 per
employee for the very small firms versus $562 for large
firms.(4) That is a significant handicap for a small
business.  Anything Congress can do to simplify tax
compliance would provide relief to small businesses from the
burden of this disadvantage.

     The "penalty" placed on small business by complex tax
laws and the groundbreaking study done by Dan Mastromarco
for the National Small Business Association, which revealed
tax laws that exclude small businesses, inspired the Office
of Advocacy to commission a study, not yet completed, of the
most commonly used business deductions.  We want to
determine how much of each tax break goes to small
businesses compared to large businesses.  From this data, we
hope to learn what can be done to make these deductions more
useful to small businesses.

     Too Much Change - Advocacy research shows that stable
and predictable tax policies promote economic growth and
that frequent tampering with tax policy has distortional
effects on the economy.  Taxpayers will adjust and shift the
bulk of their expenditures to the period in which there is a
tax benefit and away from future periods when the tax
benefits disappear.  Dr. Radwan Saade of our economic team
recently presented a working paper that demonstrated that
constantly changing tax laws can create problems for small
businesses.(5) The paper said:

     Small business associations identify taxes as  the
     single   most   important   issue   facing   small
     businesses.  Unexpected shifts in the tax rate and
     structure  only  exacerbate the already  difficult
     circumstances   involved  in   running   a   small
     business.   Now  in addition to the  uncertainties
     inherent  in operating a small business,  business
     owners must make allowances for unknown changes in
     the tax code while making plans that extend beyond
     the next presidential election cycle.(6)
     
     Dr. Saade found that permanence in the tax structure
had desirable effects.  Less predictability in the Tax Code
meant less economic predictability.  Less economic
predictability means less economic growth.  Sunset
provisions, phase-outs, and threshold levels introduce a
higher level of variability in small business expectations.
Providing certainty in the Tax Code gives small businesses
the confidence to make decisions for their long term
viability and growth.  Giving small business the ability to
invest with confidence in their future is good for the
businesses and good for our economy.

Specific Recommendations

     Make Increased Expensing Permanent - As mentioned
earlier, the increase in expensing was a significant
achievement of the Jobs and Growth Act.  It is simple and
efficient.  It reflects the actual cash outlay of the small
business and it ultimately reduces the cost of the capital
acquisition that small businesses can then apply to another
need.  The expensing increase which is scheduled to end in
2005 should be made permanent so that businesses can plan
future capital equipment purchases based on sound business
decisions.

     Make Estate Tax Relief Permanent - Under the current
estate tax law, businesses cannot adequately plan for the
death of an owner because of the annual changes and the
final sunset of the estate tax repeal.  Eliminating the
estate tax was a top priority of the White House Conference
on Small Business and has retained the strong support of the
small business community since that time.  The existing
repeal of the "death tax" should be made permanent.

     Repeal the Alternative Minimum Tax - For individual
taxpayers who must perform Alternative Minimum Tax (AMT)
calculations, the AMT has been steadily and relentlessly
increasing its grip and is expected to apply to 33 million
taxpayers by 2010.  This is a far cry from the 156 "high
income" non-taxpayers cited as one reason for creating the
AMT.  The AMT increases the marginal rate of those who must
pay by denying them preferences granted by Congress.

     For sole proprietors, partners, and S corporations
shareholders, the individual AMT increases their liability
on their business earnings by limiting use of depreciation
and depletion deductions, net operating loss write-offs,
deductibility of state and local taxes, and expensing of
research and experimentation costs.  Also, individuals who
invest in Internal Revenue Code section 1202 Special Small
Business Corporations are denied the tax incentive for the
investment.  The year-end AMT calculation distorts the tax
considerations on which earlier business decisions were
based to the detriment of small business owners.  Even in
cases where the AMT does not apply, the small business
taxpayer will still have had to perform (or more likely pay
to have performed) a calculation that the IRS acknowledges
is one of the most difficult and complicated in the Tax
Code.  For this reason, the small business community has
consistently supported repeal or a thorough reform of the
AMT.

Conclusion
     In conclusion, the Jobs and Growth Act contained
provisions which we believe are beneficial to small
businesses and, through them, beneficial for the economy and
job creation.  As this Committee and the Congress move
forward to consider other provisions to help small business,
simplicity and predictability (permanence) are of critical
importance so that small businesses can plan for certain tax
consequences.  I thank you for this opportunity to testify
on this important issue.  We look forward to working with
the Committee to promote these and other tax reforms
benefiting small business.

ENDNOTES
1.  15 USC 634b(4).
2.  Clyde Wayne Crews, Jr., Ten Thousand Commandments - An
Annual Snapshot of the Federal Regulatory State, CATO
Institute, (2003).
3.  J. Scott Moody, The Cost of Complying with the U.S.
Federal Income Tax. Tax Foundation, November 2000.
4.  See The Impact of Regulatory Costs on Small Firms, an
Advocacy-funded study by W. Mark Crain and Thomas D. Hopkins
(October 2001).
5.  Dr. Radwan Saade's working paper entitled "Rules Versus
Discretion in Tax Policy" can be viewed on Advocacy's
website at http://www.sba.gov/advo/stats/wkpaper.html.
6.  Dr. Radwan Saade's working paper entitled "Rules Versus
Discretion in Tax Policy" can be viewed on Advocacy's
website at http://www.sba.gov/advo/stats/wkpaper.html. see
the Abstract, p.1.