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36–913—PDF 2006

S. HRG. 109–953

OUR BUSINESS TAX SYSTEM: OBJECTIVES,

DEFICIENCIES, AND OPTIONS FOR REFORM

HEARING

BEFORE THE

COMMITTEE ON FINANCE

UNITED STATES SENATE

ONE HUNDRED NINTH CONGRESS

SECOND SESSION

SEPTEMBER 20, 2006

(

Printed for the use of the Committee on Finance

COMMITTEE ON FINANCE

CHARLES E. GRASSLEY, Iowa, Chairman

ORRIN G. HATCH, Utah

TRENT LOTT, Mississippi

OLYMPIA J. SNOWE, Maine

JON KYL, Arizona

CRAIG THOMAS, Wyoming

RICK SANTORUM, Pennsylvania

BILL FRIST, Tennessee

GORDON SMITH, Oregon

JIM BUNNING, Kentucky

MIKE CRAPO, Idaho

MAX BAUCUS, Montana

JOHN D. ROCKEFELLER IV, West Virginia

KENT CONRAD, North Dakota

JAMES M. JEFFORDS (I), Vermont

JEFF BINGAMAN, New Mexico

JOHN F. KERRY, Massachusetts

BLANCHE L. LINCOLN, Arkansas

RON WYDEN, Oregon

CHARLES E. SCHUMER, New York

KOLAN DAVIS, Staff Director and Chief Counsel

RUSSELL SULLIVAN, Democratic Staff Director

(II)

(III)

C O N T E N T S

OPENING STATEMENTS

Page

Grassley, Hon. Charles E., a U.S. Senator from Iowa, chairman, Committee

on Finance ............................................................................................................ 1

Baucus, Hon. Max, a U.S. Senator from Montana ................................................ 2

WITNESSES

Walker, Hon. David, Comptroller General, U.S. Government Accountability

Office, Washington, DC ....................................................................................... 4

Carroll, Dr. Robert, Deputy Assistant Secretary for Tax Analysis, U.S. Department of the Treasury, Washington, DC ...................................................... 6

Rossotti, Hon. Charles, senior advisor, The Carlyle Group, Washington, DC .... 8

Neubig, Dr. Thomas, national director for quantitative economics and statistics, Ernst & Young LLP, Washington, DC ....................................................... 10

Bernard, David, international president, Tax Executives Institute, Inc., Washington, DC; and vice president of tax and real estate, Kimberly-Clark

Corporation, Neenah, WI ..................................................................................... 12

Johannesen, Jeff, managing director, RSM McGladrey, Inc., Des Moines, IA ... 14

ALPHABETICAL LISTING AND APPENDIX MATERIAL

Baucus, Hon. Max:

Opening statement ........................................................................................... 2

Prepared statement .......................................................................................... 41

Bernard, David:

Testimony .......................................................................................................... 12

Prepared statement .......................................................................................... 42

Responses to questions from committee members ......................................... 47

Carroll, Dr. Robert:

Testimony .......................................................................................................... 6

Prepared statement .......................................................................................... 49

Responses to questions from committee members ......................................... 62

Grassley, Hon. Charles E.:

Opening statement ........................................................................................... 1

Prepared statement .......................................................................................... 69

Johannesen, Jeff:

Testimony .......................................................................................................... 14

Prepared statement .......................................................................................... 72

Responses to questions from committee members ......................................... 80

Neubig, Dr. Thomas:

Testimony .......................................................................................................... 10

Prepared statement .......................................................................................... 88

Responses to questions from committee members ......................................... 94

Rossotti, Hon. Charles:

Testimony .......................................................................................................... 8

Prepared statement .......................................................................................... 96

Responses to questions from committee members ......................................... 100

Walker, Hon. David:

Testimony .......................................................................................................... 4

Prepared statement .......................................................................................... 103

Responses to questions from committee members ......................................... 136

COMMUNICATION

ESOP Association .................................................................................................... 141

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OUR BUSINESS TAX SYSTEM: OBJECTIVES,

DEFICIENCIES, AND OPTIONS FOR REFORM

WEDNESDAY, SEPTEMBER 20, 2006

U.S. SENATE, COMMITTEE ON FINANCE, Washington, DC.

The hearing was convened, pursuant to notice, at 10:08 a.m., in

room SD–215, Dirksen Senate Office Building, Hon. Charles E.

Grassley (chairman of the committee) presiding.

Present: Senators Hatch, Lott, Baucus, Bingaman, and Wyden.

OPENING STATEMENT OF HON. CHARLES E. GRASSLEY, A U.S.

SENATOR FROM IOWA, CHAIRMAN, COMMITTEE ON FINANCE

The CHAIRMAN. Thank you all for being patient. We are here to

talk about business tax reform. We start out with the impact on

the economy. I think the U.S. economy obviously is fueled by U.S.

businesses, whether it is small business or whether it is our largest

corporations.

President Bush has called our economy the envy of the world,

and I will bet a lot of people have besides the President. But I happen to think that that is true, particularly when you relate our

GDP growth, our productivity, our low inflation, our low unemployment, they are really unmatched among developed economies.

But I have not heard anyone claim to be envious of our business

tax system. The primary objective of our business tax system is to

promote sensible tax policy. By that I mean it should equitably

raise an appropriate level of revenue, minimize tax-induced distortions to legitimate business decisions, and, of course, be as simple

as possible.

Some hard-core economists might disagree, but another objective

of our business tax system should be to promote sensible, non-tax

policies. The system should provide effective, transparent, easy-toadminister incentives for appropriate business activities, but we

have to keep in mind that targeted incentives increase the tax burden on everyone else.

So we had the President’s Tax Reform Panel saying this: ‘‘A rational system would favor a broad tax base, providing special treatment only where it can be persuasively demonstrated that the effect of a deduction, exclusion, or credit justifies higher taxes paid

by all taxpayers.’’ I suspect many business tax expenditures in the

code would fail to meet that test if the realities of politics were set

aside.

Another non-tax policy that we hear much talk about is competitiveness. We have heard about how we need to change our business

2

* For additional information on this subject, see also, ‘‘Present Law and Background Relating

to Selected Business Tax Issues,’’ Joint Committee on Taxation staff report, September 19, 2006

(JCX–41–06).

tax system because of competitiveness, but it is not clear what is

meant by that.

A large, multinational may think that it is being competitive

with foreign businesses in foreign markets. A family business may

think of it as being competitive with a large multinational corporation in the local domestic market. American workers may think of

it in terms of ability to compete for, and keep, a job. A policy maker

may think of it in terms of making the U.S. more competitive with

other countries, attracting business leading to new jobs.

A cynic might say that competitiveness is just a more palatable

word for cutting taxes. Taxes, by definition, represent the transaction cost of doing business, so that person might be right. From

a business person’s perspective, it is, of course, a sunk cost with

no expected rate of return.

But it is a fact of life that we must fund our government, and

taxing business activities is one of the ways we do that. Our goal,

therefore, is to minimize as much as possible the tax system’s interference with rational business behavior.

Our system is complex, but it is equally indisputable that businesses operate in a complex world. There is a wide variation in

businesses in terms of size and complexity, and addressing this

variation is one of those challenges facing us.

Many businesses engage in complex transactions, relationships,

and legal structures because of the global marketplace. Globalization creates challenges for our business tax system as well. U.S.

businesses operate in that global market for capital, customers,

suppliers, competitors, and business partners.

A related challenge is the global integration of our multinational

corporations. Our tax system needs to fairly and efficiently address

the realities of business complexity.

We had a hearing on that in August, where we invited in the

President’s Advisory Panel on Tax Reform, as a first step towards

tackling the issue. It is important that we examine business tax reform as a whole before focusing on a single aspect of reform.*

Before introducing the panel, I will invite comment from Senator

Baucus.

OPENING STATEMENT OF HON. MAX BAUCUS,

A U.S. SENATOR FROM MONTANA

Senator BAUCUS. Thank you, Mr. Chairman.

Susan B. Anthony once said, ‘‘Cautious, careful people always

casting about to preserve their reputations can never effect reform.’’ That is true, Mr. Chairman. Many, including the administration, seem to be afraid to address true tax reform.

In contrast, you have taken it on, and I thank you very much for

calling this hearing on how tax reform would affect business and

trying to search out, find, and implement good, new, big ideas.

The President’s Tax Reform Advisory Panel spent almost a year

hearing from taxpayers and interest groups. The panel studied the

issue, and the panel issued a very detailed report.

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But down at Treasury, they seem to have just put that report on

the shelf. Treasury seems to have ignored the report, along with its

recommendations. The exception to that rule, however, is our

Treasury Department witness today, Robert Carroll, who produced

a fairly glowing analysis of the report.

I look forward to asking him a series of questions. First, how

would the loss of depreciation deductions on existing assets under

these proposals affect American businesses like Ford and GM?

What about the loss of interest deductions?

How would that affect American business? What about the costs

of transitioning to the new regime? Will tax reform help to reduce

the budget deficit? These are all questions for which we need answers as we consider tax reform.

I am also glad to see that Comptroller General David Walker is

here with us. He admonishes us that we cannot consider these

issues in a vacuum. He warns that long-term budget issues must

also play a real role and be a part of any tax reform debate, and

he is right.

We welcome back to the committee former IRS Commissioner

Charles Rossotti. His participation on the Tax Reform Advisory

Panel was greatly appreciated.

I look forward to the testimony of Dr. Neubig, Mr. Bernard, and

Mr. Johannesen, who will give us a real-life perspective from the

private sector.

Cautious, careful ideas, ideas designed to preserve reputations,

cannot bring about true reform. True reform does require big ideas,

and I appreciate the willingness of our witnesses to come forward

with them and discuss them. I will be listening for big ideas that

we need to accomplish reform, along with practical, realistic ways

to accomplish them.

I might also add, this is an opportunity to address American

competitiveness. It is a real issue. It is a major challenge facing us

in the world. Some of it is coming from the developed world, some

from the under-developed world—China, India.

Many countries are hungry. They want to have what we have.

They want to have our standard of living, and they are going to

work as hard as they can to get there. We have to be ready. We

have to meet that challenge. It is an opportunity, as well as a challenge.

As we examine tax reform, we clearly have to have an eye on the

globe, on other countries’ tax regimes, and not do anything that

harms American competitiveness and hopefully will try to find

ways to enhance American competitiveness.

That is, help American companies compete in the world. That

means jobs in the U.S. as much as possible. Not jobs overseas, but

jobs in the U.S. as much as possible.

A lot of that comes down to education, to having the highest,

best-educated workforce in America. That will mean that more

higher paying jobs will be in America. But without belaboring the

issue, we clearly have to spend a lot of time as we think through

tax reform to keep a very strong eye on the world.

Too many tax reform proposals, Mr. Chairman, in my judgment,

just look at the four corners of the United States. They just look

at the American system. They pay personally no attention to what

4

has happened with the rest of the world. We cannot do that any

more.

Frankly, I am a bit surprised at the President’s reform proposals,

as his panel virtually looked at just the United States’ system,

looking only at the United States and not really paying much attention to what has happened in the rest of the world, but as we

proceed, we have to do that.

Thank you.

[The prepared statement of Senator Baucus appears in the appendix.]

The CHAIRMAN. Of course, what you asked will obviously be a

subject of discussion if we pursue this next year together.

Senator BAUCUS. I assume we will.

The CHAIRMAN. Yes. Thank you. I appreciate that. I hope that is

true, whoever controls Congress.

Senator BAUCUS. I do, too, Mr. Chairman. [Laughter.]

The CHAIRMAN. I just got a commitment out of him. [Laughter.]

Senator BAUCUS. That follows our mutual teamwork approach.

The CHAIRMAN. That is right.

I am going to make a very short introduction, because all of our

people, except my constituent, are very well-known. He may be

very well-known in his profession, but I want to take some time to

introduce him.

But we have David Walker, Comptroller General of the Government Accountability Office; Robert Carroll, Deputy Assistant Secretary for Tax Analysis, Treasury; the Honorable Charles Rossotti,

a member at The Carlyle Group, but we all know him on this committee as former IRS Commissioner. He was also on the President’s

panel for reform. Dr. Neubig is the national director for quantitative economics and statistics at Ernst & Young. David Bernard

is the international president of the Tax Executives Institute, and

vice president of tax and real Estate for Kimberly-Clark.

My constituent, Jeff Johannesen, is the managing director of

RSM McGladrey in Des Moines, IA, but they are a national firm.

He is going to give views on tax reform from the perspective of

something that firm specializes in, things for small- and mid-sized

businesses. That firm has been around since 1926, when it was

originally called McGladrey. They have 7,000 people in 130 countries, and I thank my constituent for coming in.

Would you start in the order that I gave you, General Walker?

Then from my left to right, ending with Mr. Johannesen.

STATEMENT OF HON. DAVID WALKER, COMPTROLLER GENERAL, U.S. GOVERNMENT ACCOUNTABILITY OFFICE, WASHINGTON, DC

General WALKER. Thank you, Chairman Grassley, Senator Baucus, and other members of the Senate Finance Committee. It is a

pleasure to be before you to speak on business tax reform.

I assume, Mr. Chairman, that my statement and the others’ will

be included in the record, and therefore I will move to summarize

them.

The CHAIRMAN. Yes. Let me affirm that, without your having to

ask. Each witness summarize, and then your entire statement is in

the record.

5

General WALKER. Thank you, Mr. Chairman.

[The prepared statement of General Walker appears in the appendix.]

General WALKER. Businesses, both corporate and non-corporate,

are a crucial pillar of our tax system. Corporate businesses paid

$278 billion in Federal corporate income taxes in fiscal year 2005.

But as we all know, businesses play important roles with regard

to other aspects of our tax system, including dealing with individual taxes.

Beyond raising revenue, taxes affect business decision-making,

thereby affecting the performance of our economy. Making business

decisions based on tax considerations rather than on underlying

economic benefits results in the channeling of some investments

into less-productive activities. This, in turn, reduces economic

growth and ultimately has an impact on the standard of living of

all Americans.

Complexity in business tax laws imposes costs on its own, facilitates tax shelters, and provides cover for those who do not want to

pay their fair share. Although the precise amount of the business

tax avoidance is unknown, IRS’s latest estimates show a business

tap gap of at least $141 billion for 2001.

Not surprisingly, there is a growing debate about reforming the

tax system, including business taxes. My full statement reviews

our Nation’s large and growing long-term fiscal imbalance, describes some of the challenges with our current system of business

taxation, lists some of the major strategic choices that we must

make as a Nation about how to tax businesses in the future, and

then provides some principles that ought to guide the debate, in

our view, about business tax reform.

These principles are based on three longstanding criteria typically used to evaluate tax policy, namely: equity, economic efficiency, and the combination of simplicity, transparency, and administrability, which are discussed more fully in my testimony.

The principles include such concepts as: the proposed tax system

should raise sufficient revenue in the aggregate over time to fund

our current bills and deliver on our future promises. The tax base

should be as broad as possible. The proposed system should have

attributes associated with high compliance rates.

To the extent that other objectives such as equity and simplicity

allow, the tax system should aim for increased economic efficiency

by remaining as neutral as possible in connection with various

structural forms.

The more neutral the tax policy is, the greater potential for enhanced economic growth, the less the compliance costs, the greater

potential for increased productivity and competitiveness of the U.S.

economy, and ultimately the standard of living of Americans.

Finally, the consideration of transition rules needs to be carefully

considered as an integral part of the new design. This document,

Senators, I would commend to you—I think all of you have received

a copy of it—which GAO published in September of 2005 and includes a very comprehensive, plain-English summary of some of the

key elements of our current tax system and a potential way forward on tax reform.

6

In summarizing, the problems outlined in my statement relating

to compliance costs, efficiency costs, equity, and tax gaps associated

with the current business tax system, combined with our Nation’s

large and growing long-term fiscal imbalance, would seem to make

a clear and compelling case for comprehensive review and reform

of our existing tax policy.

Further, American businesses operate in a world that is profoundly different than when many of these provisions were put into

place. It is much more competitive, much more global, and, quite

frankly, geopolitical boundaries have less and less significance

every day. Many of these tax provisions were enacted years ago

and have not been reviewed, revised, and updated to reflect the realities of the 21st century.

Despite numerous and repeated calls for reform, progress has

been slow. The recent report of the President’s Advisory Panel on

Federal Tax Reform recommended two different tax reform plans.

Although each plan is intended to improve economic efficiency

and simplify the tax system, neither of them addresses the large

and growing fiscal imbalance facing our Nation which serves to

threaten the future of our country, our children, and our grandchildren.

I would be happy to answer any questions after my colleagues

have the opportunity to make their statements, Mr. Chairman.

That summarizes my full statement. Thank you.

The CHAIRMAN. Thank you.

Dr. Carroll?

STATEMENT OF DR. ROBERT CARROLL, DEPUTY ASSISTANT

SECRETARY FOR TAX ANALYSIS, U.S. DEPARTMENT OF THE

TREASURY, WASHINGTON, DC

Dr. CARROLL. Mr. Chairman, Senator Baucus, and distinguished

members of the committee, I thank you for the opportunity to appear before you today to discuss business tax reform.

Tax reform is, without question, one of the most important issues

facing our economy today. Reform of the Federal individual and

business tax systems offers a significant opportunity for improving

job and wage gains for American workers.

The key consideration in evaluating approaches for reform in the

business area is the relative efficiency of different policies to encourage investment, or more accurately to reduce the extent to

which the tax system discourages investment. Also, in today’s global economy, the competitiveness of the United States is essential

for our economy to continue to attract investment and create jobs.

Before focusing on business tax reform, I would first like to discuss the problems with our tax system more broadly, then focus on

how the tax system affects investment and the importance of business taxation to the tax burden on investment.

Our tax system imposes very large costs on our economy. First,

our tax system is extremely complex, difficult to comply with, and

hard to understand. Individuals, small businesses, and corporate

taxpayers spend literally billions of hours and billions of dollars

each year to comply with the tax system. Compliance costs total

some $140 billion each year.

7

The tax system also imposes large economic costs on our economy. It interferes with and distorts decision making by individuals

and businesses in a number of different ways. These economic costs

hinder economic growth and reduce living standards. Some estimates suggest that tax reform can ultimately increase the size of

the economy by 2 to 10 percent.

At the core of tax reform are the three pillars of simplicity,

growth, and fairness. These are, of course, the objectives the President set forth when creating the Advisory Panel on Federal Tax

Reform.

It is useful to consider general principles that can be applied for

our tax system with these core objectives in mind.

First, the tax system should raise revenue with the least possible

interference with business and household decision making. Second,

the tax system should have a broad base with low tax rates. Third,

the tax system should promote a strong economy by promoting savings and investment. Fourth, the tax system should be appropriately progressive and provide equal tax treatment to similarly

situated taxpayers. Fifth, the tax system needs to adapt and

change with the increasingly global economy to maintain the competitiveness of the United States and to continue to attract investment in highly skilled labor. Finally, the tax system should be stable and avoid frequent changes that create uncertainty and make

it difficult for taxpayers to plan for the future.

Business tax reform, the subject of today’s hearing, is an issue

that can be considered in the broader context of how the tax system taxes investment. Investment adds to the productive capacity

of the economy directly by increasing the capital stock, as well as

indirectly by integrating new technologies and production processes.

Higher investment raises labor productivity by giving labor more

capital with which to work. Policies that encourage investment by

virtue of additional capital formation and higher labor productivity

are the key to increasing living standards.

Business taxation generally reflects only one aspect of the tax on

investment. The return on an investment may be subject to three

layers of tax under our tax system: business level taxes, investor

level taxes, and the estate tax.

Our tax system also treats investment unevenly across asset

types, sectors, and sources of financing, which reduces the productivity of a given stock of capital. Business tax reform can increase

the productive capacity of the economy by reducing these distortions.

There are a number of different policy avenues for influencing

the tax on capital and treating different types of investment more

uniformly, each with its own set of inherent trade-offs.

The corporate tax rate, the individual tax rate, how quickly investment is written off, the tax on investment returns received by

individuals in the form of dividends and capital gains, and the tax

treatment of interest all influence the incentive to invest.

Not all policy levers are created equal, however. Some policies

are more focused on encouraging new investment, while others may

more broadly benefit new investment as well as the return from old

capital. Each policy approach involves significant and difficult

8

trade-offs among the sometimes competing objectives of simplicity,

growth, and fairness.

A key consideration in business tax reform is also to ensure that

the United States remains competitive as a leader in the global

marketplace. The United States is increasingly linked to the world

economy through trade and investment, and the benefits of domestically based multinational businesses and their foreign investment

are becoming clearer each day.

The tax system can have profound effects on multinational corporations’ choices of how much, and where, to invest. The United

States has a statutory corporate tax rate that is high relative to

the G–7, as most of the other G–7 countries have reduced corporate

tax rates over the past several years, but the U.S. corporate tax

rate is close to the effective and average tax rates of the G–7.

Importantly, the integrated effect of tax rates in the United

States would be considerably higher than the G–7 without the

lower tax rates on investor-level income—dividends and capital

gains—enacted in 2001 and 2003, and now in effect through 2010.

That is, the tax relief enacted in 2001 and 2003 has helped make

the United States a more attractive place to invest relative to other

G–7 countries.

I thank you again for the opportunity to appear before you today,

and I look forward to working together with this committee and

others in the Congress on this important issue. I would be pleased

to answer questions from the committee after my colleagues have

their opportunity.

The CHAIRMAN. Thank you, Dr. Carroll.

[The prepared statement of Dr. Carroll appears in the appendix.]

The CHAIRMAN. Mr. Rossotti?

STATEMENT OF HON. CHARLES ROSSOTTI, SENIOR ADVISOR,

THE CARLYLE GROUP, WASHINGTON, DC

Mr. ROSSOTTI. Thank you, Mr. Chairman. It is good to be back

to appear for the first time since I left as IRS Commissioner.

Senator BAUCUS. Welcome back.

Mr. ROSSOTTI. Thank you. I am particularly happy to be talking

about how we can simplify taxation of business in America. My involvement in the tax world has actually been a bit strange, because

for more than 30 years I was a businessman and a taxpayer, but

definitely not a tax expert.

Then by an unexpected turn of events, I ended up as IRS Commissioner for 5 years. Last year, another unexpected turn of events

led me to be on the Tax Reform Panel. But despite these occasional

forays into the tax world, I remain a person whose main life experience has been that of a businessman.

After traveling on this unexpected path through tax territory, I

have one observation that trumps all others about the U.S. tax system. That is, it is astoundingly inefficient, mainly as a result of

mind-numbing and unnecessary complexity.

I find it truly remarkable that the time and money the taxpayers

in this country spend trying to comply with the tax code costs

$140 billion a year. That complexity gets worse every year. In the

20 years since adoption of the 1986 Tax Reform Act, Congress has

9

passed 14,400 amendments to the tax code. That is an average of

about 2.9 changes for every single working day in the last 19 years.

When you add in approximately $300 billion per year in taxes

that should be paid but are not paid, in part because of the complexity of the code, you arrive at a total overhead burden on honest

taxpayers in the neighborhood of $450 billion a year. That is about

what we spend on Social Security, and it is more than one-third of

what we actually pay in income taxes.

While all taxpayers suffer from this inefficiency, it is a fact that

the majority of this cost is borne by businesses, especially small

businesses. Of the $140 billion per year in tax compliance costs,

about 75 percent of that is shouldered by businesses, including selfemployed individuals.

But beyond that staggering compliance cost, businesses suffer

from inefficiency in another way. That is because the actual tax

burden on individual businesses is capriciously uneven and often

unpredictable.

Many businesses do, in fact, pay the full statutory tax rates on

their income, but many other businesses, sometimes even in the

same competitive industries, pay far less.

That is for two reasons. One is that they just simply may fail to

report what they should report and they simply get away with it

because of lack of resources in the IRS.

The other reason is that they just may happen to be in a better

position to take advantage of special provisions and complexities of

the code to reduce their actual tax rate well below the statutory

rate.

This situation is not only unfair, it creates great inefficiency by

distorting the business playing field and diverting scarce attention

away from improving efficiency of operations into planning how to

minimize taxes.

There may be, and probably are, political factors at work that

tend to lock in this level of inefficiency. I cannot judge that question because I am not a politician. But I do know that there is a

better way available if our political leaders want to adopt it, and

that is to adopt a much, much simpler system that would even the

playing field among businesses and would at the same time enable

us to lower the statutory rates while raising the same amount of

revenue.

Now, the Tax Panel laid out in detail some options about how

this could be done, and I will not repeat them here. I will only list

four principles that I think are essential to making the system of

business taxation simpler, fairer, and more efficient. I have, in my

written testimony, provided more detail on each of these four

points.

Number one, lower rates are better than special preferences.

Number two, rules for small businesses should be, and can be, far

simpler than for larger businesses. Number three, double taxation

of businesses should be reduced or eliminated, but all business income should be taxed once at approximately the same rates. And

finally, as many here have said, the tax system badly needs to be

updated to reflect the reality that a large fraction of business is

now routinely done on a global basis, not just a local basis.

10

So the conclusion that I hope you will come to, Mr. Chairman

and members of the committee, is that the U.S. tax system does

not have to be as complex and inefficient as it is. While it would

take considerable political leadership to make a major reform, I believe the benefits to the taxpayers of the U.S. would make it worth

it.

Thank you, Mr. Chairman.

The CHAIRMAN. Thank you, Mr. Rossotti.

[The prepared statement of Mr. Rossotti appears in the appendix.]

The CHAIRMAN. Now, Dr. Neubig?

STATEMENT OF DR. THOMAS NEUBIG, NATIONAL DIRECTOR

FOR QUANTITATIVE ECONOMICS AND STATISTICS, ERNST &

YOUNG LLP, WASHINGTON, DC

Dr. NEUBIG. Thank you, Mr. Chairman. I appreciate the invitation to testify before the committee on the issue of business taxation, and in particular options for reform.

The breadth of the hearing is quite large, so I will restrict my

comments to reasons why many corporations prefer a lower corporate tax rate to more targeted tax reductions, and specifically

prefer lower marginal tax rates to expensing of capital investments.

The President’s Advisory Panel outlined a growth and investment tax plan for a business cash flow tax as one of their alternatives, and that included a proposal for expensing, which is, first

year, 100 percent write-off of capital equipment, structures and inventory.

One might have expected that this plan would receive a standing

ovation from the business community, since many economists, my

academic friends, claim it would result in a zero effective tax rate

for new capital investment.

Instead, the idea of a business cash flow tax and expensing was

largely greeted with silence. So why was there this tepid response

from the corporate community? Why is there this disconnect between the corporate community and what academic economists are

saying?

If we look at the Tax Council Policy Institute’s survey of multinational corporations where they were asked to rank a range of alternative tax reform options, the clear favorite was lowering the

corporate tax rate to 25 percent or below, compared to other, both

incremental or fundamental tax reforms.

I would like to highlight four reasons why many corporations

prefer a lower corporate tax rate to the proposed option of expensing capital equipment. The first reason is expensing offers only a

timing benefit and it does not reduce, for book reporting, the book

effective tax rate.

The book effective tax rate remains at 35 percent, even though

they are getting significant deductions. If you lower the corporate

marginal tax rate, that would lower corporations’ book effective tax

rates and it would also increase their reported book profits.

Expensing accelerates deductions from future years into the first

year when the investment is made. It provides only a timing tax

difference. With expensing, public corporations would continue to

11

have high effective tax rates on their current income, plus they

would build up very large, deferred book-tax liabilities.

In contrast, reducing the corporate marginal tax rate would immediately lower corporations’ book effective tax rates, increase

their reported after-tax profits, and would reduce their deferred

book-tax liabilities and assets.

This is important, because two-thirds of the largest companies,

the top 50 companies that we looked at, reported large deferred tax

liabilities, and a lower marginal tax rate would be welcome in reducing those deferred tax liabilities.

The second reason is that corporations already expense a large

fraction of their capital investments. A lower tax rate would benefit

both their tangible investments, as well as their intangible investments.

A recent study found that business investment in intangible capital is now as large as their spending on tangible capital. Intangible investments include research and development, copyrights,

computerized databases, and brand equity.

Most investments in self-constructed intangible assets are already deducted in the year that the wages and salaries are incurred, and a lower corporate marginal tax rate would benefit income from both those intangible investments on their future income, as well as lowering the cost of capital on tangible investments.

The third reason is, expensing is unlikely to occur without a

counterbalancing loss of interest deductibility. Combining expensing with repeal of interest deductibility is necessary to prevent negative effective tax rates, as the Advisory Panel concluded. A lower

corporate marginal tax rate could occur with continued interest deductibility.

The fourth reason is, expensing reduces the tax wedge at only

one margin of corporate decision making, the decision to invest in

tangible property. A lower tax rate would reduce the tax wedge on

all corporate decisions, including location of investments in the

U.S. versus foreign countries, debt equity financing, and transfer

pricing planning.

The U.S. has one of the highest statutory corporate tax rates. A

combined Federal/State corporate rate of 39 percent is one of the

highest compared to the OECD average of 31 percent, and that average is falling as more countries are going to phase in future tax

rate reductions.

While there are a wide range of views among the corporate tax

community, many of them would prefer to see the U.S. join other

countries in lowering the corporate marginal tax rate rather than

moving to a business cash flow tax or reducing the corporate tax

base further with expensing.

Thanks.

The CHAIRMAN. Thank you, Dr. Neubig.

[The prepared statement of Dr. Neubig appears in the appendix.]

The CHAIRMAN. Now, Mr. Bernard?

12

STATEMENT OF DAVID BERNARD, INTERNATIONAL PRESIDENT, TAX EXECUTIVES INSTITUTE, INC., WASHINGTON, DC;

AND VICE PRESIDENT OF TAX AND REAL ESTATE, KIMBERLY-CLARK CORPORATION, NEENAH, WI

Mr. BERNARD. Thank you, Mr. Chairman, for inviting me to testify on behalf of the Tax Executives Institute in order to provide

the perspective of a business tax executive on fundamental tax reform.

TEI is the preeminent association of in-house tax professionals,

with more than 6,000 members. They represent 2,800 of the largest

companies in the United States, Canada, Europe, and Asia.

I am not only TEI’s volunteer president this year, but I am also

vice president of tax and real estate at Kimberly-Clark Corporation, a 130-year old company that has grown from an initial capitalization of $30,000 to a market cap of $30 billion. Today the company is a global leader in health and hygiene products, with manufacturing facilities in 18 States, 39 countries, and products being

sold in over 150 countries.

Our tax code, like the world around us, has grown increasingly

complex in the 3 decades since I joined Kimberly-Clark. The growth

has spawned a universe of statutory and regulatory pronouncements that are profoundly difficult for taxpayers to understand and

to comply with. Part of the reason for this is society’s increasing

reliance on the Internal Revenue Code not merely to raise revenue,

but also to advance social and economic policies. In a very real

sense, the code has lost its way, and we all must accept a measure

of responsibility.

The challenge is to refocus and reform our Internal Revenue

laws. TEI believes there are four principles that should guide our

collective efforts. First, U.S. businesses do not operate in a closed

system. The current system places American companies at a competitive disadvantage. Let me offer two brief examples: our system

for taxing foreign income under Subpart F and our foreign tax

credit regime.

Specifically, Subpart F makes it difficult to operate in the same

manner as our foreign competitors since our competitors generally

are not taxed in the home country on foreign operating income,

while U.S. businesses may be taxed in both the United States and

abroad. To be sure, the code provides a foreign tax credit, but it

does not always eliminate double taxation. In the case of my own

company, tax is not an after-thought on location decisions.

U.S. companies are increasingly forced to build facilities overseas, not merely because that is where our customers are, but because the economic and tax environments are often friendlier there.

Congress should strive to create a tax environment that allows

U.S. companies to compete around the world while retaining research, manufacturing, and jobs at home. America’s foreign trading

partners are not shy in vying for new plants, research facilities,

and distribution centers. If the United States is to remain competitive, our rules must change.

Second, the U.S. tax rate must be competitive. In the mid-1980s,

the United States recognized this and reduced the corporate tax

rate to a then global-leading 34 percent. Now our rate comes in at

near the top of the list. While we were running in place, our EuroVerDate 11-MAY-2000 16:21 Aug 20, 2007 Jkt 095484 PO 00000 Frm 00016 Fmt 6633 Sfmt 6633 36913.000 SFIN1 PsN: SFIN1
13

pean trading partners made rate reductions the rule of the day.

From 1986 to 1996, the average corporate tax rate of the 25 countries of the European Union dropped more than 10 percentage

points.

Lower rates, however, do not mean lower revenue. Indeed, Tax

Notes magazine recently confirmed that, despite significant reductions in tax rates in European countries, corporate tax revenue, as

a percentage of GDP, is rising there. As part of fundamental tax

reform, Congress should level the rate playing field and thereby

make America’s tax system and American business more competitive.

Third, the tax system should not pick winners and losers. While

some incentives such as those for research and education have

widespread support, a growing consensus favors lower rates and a

broader base to reduce complexity, ease tax administration, and

minimize the government’s role in picking winners and losers.

It can be argued, of course, that tax reform itself will produce

winners and losers, just a different group than under the current

system. While this may be true, especially on a transition basis, it

should not staunch the debate. TEI submits that sound tax policy

should take precedence over a patchwork of tax incentives and inducements.

Fourth, the tax system must be simpler. Achieving and maintaining an effective balance between fairness and simplicity is not easy.

At one extreme, fairness—this is to say, treating similarly situated

taxpayers in the same way—demands tax rules to be complex. At

the other, simplicity calls out for rough justice.

American society is complex and the tax rules must reflect that,

but they need not be consumed by it. Simple is good not only on

its own account, but because complexity represents a daunting, hidden tax on American business.

Estimates of this cost vary, but the Tax Foundation estimates

that in 2005, taxpayers incurred costs in excess of $265 billion to

comply with the Federal income tax laws, with business’s share

being a staggering 55 percent. For example, Kimberly-Clark electronically filed its 3,300-page U.S. tax return for 2005 just last

week after 8 months and 19,000 staff hours of effort.

Equally important, a simpler tax system will also be easier for

the IRS, which currently spends a disproportionate amount of its

resources plugging so-called loopholes, often creating unintended

and expensive consequences. Simply stated, the more complex the

code, the greater the likelihood for taxpayers to confront interpretative issues and questions that, if not addressed, will spawn opportunities for lawful tax avoidance. Simplifying the code will also reduce the heavy proxy tax of record keeping that can impede dayto-day business decisions.

Mr. Chairman, one final point, if I may. Recently, attention has

focused on the so-called tax gap. While definitional and measurement issues exist, TEI firmly believes that the tax gap can be significantly reduced by meaningful reform and simplification. This is

because some portion of the gap is undeniably attributable to the

complexity of the code itself. If taxpayers do not understand its provisions, they may not be able to comply.

14

Similarly, some portion of the tax gap may be attributable to taxpayers exploiting the complexity. It may not be possible to quantify

how much of the gap is attributable to this complexity but, beyond

question, making the code less complex will help narrow that gap.

In conclusion, TEI applauds the committee’s efforts to advance

the debate on tax reform. We stand ready to be active participants

in the discussion of how to make the system of taxation more competitive and less complex, while preserving fairness for all taxpayers.

I would be pleased to answer any questions that you or my colleagues have.

The CHAIRMAN. Thank you.

[The prepared statement of Mr. Bernard appears in the appendix.]

The CHAIRMAN. Mr. Johannesen?

STATEMENT OF JEFF JOHANNESEN, MANAGING DIRECTOR,

RSM McGLADREY, INC., DES MOINES, IA

Mr. JOHANNESEN. Well, Mr. Chairman, first, I want to thank you

for that nice introduction you gave a few minutes ago.

I also want to thank you and the entire committee for inviting

us to be here. We certainly appreciate that. We are honored. We

are excited about this process. Probably just as much as you have,

I have enjoyed listening to this panel give their opinions in this

area.

My testimony is probably from a slightly different perspective. I

do not necessarily disagree, but, because of the people I work for

and the type of clients we have, our perspective is different. We

have a significant number of clients that are what we call midsized businesses.

Mid-sized businesses obviously have all sorts of industries that

they participate in. They conduct their affairs in every conceivable

business entity structure that we have in the tax law. They operate

domestically, they operate internationally. Some are owned, honestly, by international interests. Overall, it is just a very interesting group.

I have a couple of observations that I want to share with the

committee about this group. I think you will find them interesting.

One is that, unlike large companies and publicly traded companies, many mid-sized businesses do not have tax departments.

They do not have internal professional staff that can deal with the

complexities that we face. Some of the consequences of that are

that they do not take advantage of the incentives, the deductions,

the credits that are built into the tax law.

Oftentimes they miss those, either because they are unaware of

the existence of those rules, or, quite frankly, they are just too costly for them to implement for the benefit they will receive.

An example of that would be the recently-enacted 199 deduction.

It is a great piece of well-intentioned legislation, but it is very hard

for the middle market to successfully take advantage of it.

I know this is true because I have seen it from my own personal

experience. Oftentimes when we have a new client relationship

where we view prior returns, it is disturbing how many deductions,

15

credits, and incentives that these companies do not take advantage

of.

It is also confirmed by a survey that our firm participated in this

summer, where we surveyed almost 1,000 CEOs and CFOs of

small- and mid-sized businesses. What that confirmed was that almost 40 percent of that group did not take advantage of every deduction, credit, and incentive that is in the tax law that they were

entitled to.

One other observation about this group that I want to make. I

think there is a lot of anxiety about tax reform in mid-sized businesses. I think that manifests itself in the fact that they do not

have tax departments to deal with changes.

They probably do not quite understand how major tax reform

will affect them in the long term. Maybe more importantly, and

this has been mentioned earlier, they just do not know how to get

from the system we have to the system that we are going to have.

Assuming that that will be a much-improved system, that transition is going to be very difficult for this group to deal with.

I want to briefly outline some of the things that we would like

to see included in the tax system for mid-sized businesses. Some

of the things have been mentioned previously, and I think we are

going to have some consistency in that.

We do need a tax system that promotes growth and vitality for

this business segment. If we can get the simplicity/lack of complexity worked into there, that would certainly be important. Stability and predictability is also a key factor of what we would like

to see present.

If we can eliminate provisions that inhibit these businesses from

conducting normal business operations, I think we will have gained

quite a bit right there. That is doable, and I have a couple of examples for you here that I would like to talk about, especially in the

S corporation arena.

Also consistent with the panel, we think that lower tax rates on

business makes sense. I also feel, and our firm agrees, that either

the elimination or significant simplification of the Alternative Minimum Tax would be a big plus.

I talked about transition rules. I just want to say one more time

that I really appreciate the committee’s interest in how this affects

mid-sized businesses that do not necessarily have the tax resources

that other companies do.

I have to tell a story. I think sometimes stories are very meaningful, and this will highlight, I think, some of the things—not everything, but some of the things—that I have been trying to stress

here.

We had a client that, a few years ago, went from a C corporation

environment to an S corporation election. It as absolutely the right

thing for them to do. It made sense. We helped them with that

analysis. A few years after that, because of the growth in their

business, they decided that rather than continue as a family business, they were going to need to access the capital markets.

When they came to us as a team, and we helped them try to

work through this, they then remembered, as we had talked about

earlier, a couple of things about S corporations that were very difficult.

16

One was that, for the most part, you could only have individual

investors. It is hard to go to the capital markets when you can only

get individual investors. Two, they found out that you could not

have a second class of stock, and this is what they were proposing

to bring in for equity investment.

So we did help them work through an appropriate structure as

part of a team of professionals that did that. The end result was

very positive. They were a very successful company. Unfortunately,

it was costly, it was confusing, and, quite frankly, it was unnecessary.

At the end of the day, there was no effect to the revenue for the

government in this. We just had a lot of hurdles in place for this

business. They cleared those hurdles, but it would have been nice,

in our system, if we had not had to jump over them.

So I have many more examples. I know I do not have time to discuss those now, but I would be happy to do that later. Again,

thanks for the opportunity to be here.

The CHAIRMAN. Yes. Thank you.

[The prepared statement of Mr. Johannesen appears in the appendix.]

The CHAIRMAN. We will take 5-minute rounds of questioning.

The order is: Grassley, Baucus, Hatch, Bingaman, Wyden, and

Lott, in the first-come, first-serve. Also, I think we are expecting

a vote at 11.

Senator BAUCUS. It is at 11:15.

The CHAIRMAN. Oh. It is 11:15. It will still come in the middle

of our questioning. I would like to keep the session going, so whatever members have voted, keep the meeting going in my absence.

I am going to start with an issue that was brought up by the

President’s Commission that came forth with what they called the

Simplified Income Tax Plan. Mr. Rossotti talked about it in his testimony, about moving, as we did from our present system, to the

territorial international tax regime.

I am going to ask Mr. Rossotti, and then at least Mr. Bernard,

to respond to this. If other people want to respond, it is up to you,

but at least those two. I am going to start with Mr. Rossotti and

ask you two questions.

First, why should this committee consider moving to a tax system that intensifies the pressure placed on transfer pricing enforcement? Second, given the difficulty the IRS faces under our current

deferral regime, is it realistic to expect enhanced enforcement to

adequately address the increased importance of transfer pricing

issues in the territorial regime?

Mr. ROSSOTTI. Thank you, Mr. Chairman. Yes. I do not believe

that the system proposed by the Tax Panel, which was built on

something proposed by the Joint Committee on Taxation, would

materially increase the pressure on transfer pricing.

There is plenty of pressure on it, but I think today, as it is already, with the deferral of income and with the availability of foreign tax credit planning, there is ample opportunity—or ample incentive, I should say—for multinational corporations to do what

they can in the transfer pricing arena and move income away from

U.S. reporting to other places. That would continue to be the case,

but would, I do not think, be materially different.

17

I think what would be different is another element of tax planning that would be eliminated, or mostly eliminated, which is the

interaction between foreign tax credits, as well as transfer prices.

The CHAIRMAN. All right.

Mr. Bernard?

Mr. BERNARD. Mr. Chairman, I would like to add to the Commissioner’s comments by saying that I believe that a lower tax rate as

part of the tax reform initiative would greatly reduce the pressure

that exists presently on transfer pricing.

If you look at transfer pricing, there is no right or wrong answer.

There is usually a range of right answers when you come to transfer pricing questions. And if the U.S. rate were more competitive,

we would generally end up with more of the profit through transfer

pricing ending up in the United States on the front end of the

transaction.

The CHAIRMAN. All right.

I am going to go on to another question, again, to Mr. Rossotti,

but if Mr. Bernard and Mr. Neubig would follow up, I would appreciate it.

This is in regard to the Generally Accepted Accounting Principles. Proponents cite the tension between competing incentives to

report high accounting income but low taxable income. And dealing

with that issue, I want to quote Dr. Douglas Shackelford, who testified as a Professor from the University of North Carolina before the

Subcommittee of the House Ways and Means Committee.

He said, ‘‘Book-tax conformity would adversely affect both financial reporting and the tax system for at least two reasons. First,

shareholders and the taxing authorities need different information.

Second, even if Congress mandates conformity, it will not be sustainable. In time, the policy will revert to the current system. In

the meantime, conformity will damage our capital markets.’’

So, Mr. Rossotti, Mr. Bernard, and Dr. Neubig, your reactions to

those criticisms.

Mr. ROSSOTTI. Well, first, let me say that my own personal opinion here was not part of the Tax Panel’s report. This is something

that I have thought of beyond that that would be a far-reaching

change.

But I do believe, and Dr. Neubig here made some very good comments about how this works, that the divergence has gotten so

great between the financial reporting—and I am talking for large

corporations here, not for small businesses—between the tax code

reporting and the financial reporting, that it has created a very

substantial amount of burden in trying to explain these differences

and track these differences, even a burden on businesses. As a matter of fact, the second-largest cause of financial restatements because of Sarbanes-Oxley had to do with tax accounting.

I think one proposal that would be worth consideration would be

to simply separate the issue of measurement of corporate income—

which already has an elaborate process through the Financial Accounting Standards Board, through the Public Corporation Accounting Oversight Board, and the SEC—to separate that process

from the decision of how much of it to tax.

So you could use the well-established process to measure corporate income on a before-tax basis to measure income. The ConVerDate 11-MAY-2000 16:21 Aug 20, 2007 Jkt 095484 PO 00000 Frm 00021 Fmt 6633 Sfmt 6633 36913.000 SFIN1 PsN: SFIN1
18

gress then would be limited to focusing on how much tax and how

many tax credits should be applied to that.

Should that be done? I have done my own calculations on this.

I believe just by taking that approach you could reduce the corporate tax rate to no more than 25 percent and still raise the same

amount of revenue.

I think that would be a far-reaching proposal. It would require

a lot of study. It would require Congress to be willing to, in effect,

delegate one part of the question on business tax income to an

independent technical process, the measurement of income.

It would not, of course, give up the right to decide how much tax

it can impose, but it would give up, in a sense, a delegation of that

technical issue to an independent body.

My own personal view as a business person, although many

issues would have to be thought through about this, is this would

be a far-reaching change that could dramatically not only improve

the simplicity of the system, the reliability of the system, the

equalness of the system, since everybody would be reporting the

same, but would also enable you to, in a revenue-neutral way, dramatically reduce our tax rates in order to make them actually

lower than what they would be in most of the other countries in

the world.

So this was not a proposal that was adopted by the Tax Panel,

but as just my own personal opinion, I think if we are going for

corporate tax reform it would be something that would be worth

considering.

Senator LOTT. Mr. Chairman?

The CHAIRMAN. Yes?

Senator LOTT. Would you yield just for a brief comment?

The CHAIRMAN. Yes.

Senator LOTT. I ask my colleagues to allow me to do this. I will

be very brief. Just to thank you all for being here. I found the

panel very interesting. Thank you, Mr. Chairman and Senator

Baucus, for having the hearing.

I do want to say to you, Mr. Rossotti, that you certainly look

more prosperous and seem to be more articulate than you were

when you were at IRS. [Laughter.] I do not know what happened.

Mr. ROSSOTTI. Well, I think I have actually grown a couple of

inches.

Senator LOTT. Well, maybe so. But you have given us a lot to

think about today. Thank you all.

The CHAIRMAN. For the other two people, would you please give

a short answer, because I have run way over on my time?

Mr. BERNARD. I would be glad to, Mr. Chairman. I am not sure

we can entirely conform book and tax, but we can learn from many

of our major trading partners.

We have substantial operations in Germany, France, the U.K.,

Australia, and Canada, where there is much greater conformity

and the tax return preparation process is much simpler to comply

with. Rather than hundreds of book-to-tax differences, I think you

could follow GAAP in many respects and greatly reduce the complexity that exists today.

The CHAIRMAN. Dr. Neubig?

19

Dr. NEUBIG. I testified with Professor Shackelford in May on the

House side, and I guess I share Dr. Shackelford’s concern that relying on book-tax conformity as a meaningful tax reform raises a

whole host of issues that would need to be explored in depth.

I’ll give two quick observations. In the 1986 Tax Reform Act, we

actually did try to tax the difference between book and tax, and it

had an ugly acronym of Business Untaxed Reported Profits, BURP.

Trying to tax BURP raised many issues, and Congress eventually

repealed the BURP preference after a few years.

Second, the IRS has instituted a new Schedule M–3 that will

really give policy makers a lot more detailed information about differences between book and tax reporting. And the IRS and Treasury staff recently released a report last month that I think will

really help you understand some of these issues.

The CHAIRMAN. Senator Baucus?

Senator BAUCUS. Thank you, Mr. Chairman.

Let me just kind of change subjects a little bit, just going to the

present.

You all are concerned, and I think everybody in this room is concerned, everybody who is watching this is concerned, about unnecessary complexity in the American tax code.

Would Congress not be adding still another complexity to the tax

code unnecessarily, clearly, if Congress does not pass these extenders in the next couple of weeks, that is, before the election?

I say that because the IRS has testified that if we do not, that

is if the extenders come up after the election in November, then the

IRS will have to reprint forms, have to go back and re-do all kinds

of items. One hundred and forty million Americans file 1040s, and

a lot of these provisions and extenders are the subject of that Form

1040. Tax software developers will have to go back and rewrite

software, new code.

If we are going to obviously pass the extenders, the Work Opportunity Tax Credit, State sales tax deduction, research and development tax credit, tuition and classroom deduction for teachers, if we

are going to do it—and we are going to do it, there is no doubt

about that, we are going to do it—would it not make more sense

to get all these passed before the election so that we would not

cause more paperwork, more complexity, more cost to the IRS,

more cost to companies?

That is, do it before the election rather than after the election?

Because the IRS has said their drop-dead date is October 15. Many

companies have told us their drop-dead date is October 15. Many

companies have said they are going to have to restate their financials if it is not done now.

Mr. Rossotti?

The CHAIRMAN. The answer is obviously ‘‘yes.’’

I appreciate Senator Baucus’s points on the tax extenders. As

should be clear, this is a matter that is extremely frustrating for

me.

As far as I’m concerned, there was an agreement to deal with

these provisions as part of the pension conference. That agreement

was a key premise to reaching agreement on the reconciliation conference report. Members, businesses, and taxpayers relied on that

agreement.

20

In June, shortly after the cloture vote on the motion to proceed

to the death tax repeal, I indicated I thought the political season

had arrived and Republicans were going to be denied an accomplishment on the death tax.

Several subsequent efforts were made by the Leadership to try

to force a vote on the death tax by adding sweeteners. An attempt

was made on the pension conference. An attempt was made on the

so-called Trifecta. I counseled against each of those courses of action. My counsel was ignored in each instance. And the action involved legislation that I had developed in this committee on the

floor in a bipartisan manner. In each case, as predicted, the efforts

failed.

When we came back early this month, the Leadership suggested

they would take another shot at the Trifecta. I said, do it early. If

it succeeds, then fine, we’ve finally delivered on extenders. If it

doesn’t succeed, then let’s do the trailer bill by itself.

Well, that was several weeks ago. Once again, it appears my

counsel will be ignored on legislation I’ve shepherded through the

process. It is extremely frustrating. There never was an early decision and action on Trifecta, and now leadership members and staff

have slow-walked us into a probable nullity on these time-sensitive

matters.

Now, some members have backed up the slow-walk by threatening to shoot the trailer bill ‘‘hostage.’’ In other words, they are

using all their powers as Senators to block action on a matter that

has overwhelming bipartisan support. Unlike those members, who

again have not had the role I’ve had in bringing the legislation

through the process, I have refrained from using my full power to

force the issue on the floor.

What is sad about this is that these members ignore the impact

on millions of middle-income taxpayers and hundreds of thousands

of businesses who relied on a decent process. These constituents of

ours who are trying to do the right thing are secondary to a gambit

that is probably going to fail. The concerns, track record, and integrity of the Finance Committee are simply discarded by concerns

about the ‘‘credibility’’ of threats to shoot these popular tax provision ‘‘hostages.’’

Senator Baucus, we will get this done, but I’m very disappointed

in this process. It is not right.

Senator BAUCUS. All right. But I want to hear it from them.

Mr. ROSSOTTI. Well, I think Dr. Carroll is probably a lot better

able to answer this, because I am not involved any more in knowing exactly which provisions——

Senator BAUCUS. I am telling you what the current Commissioner said.

Mr. ROSSOTTI. Yes. But, I mean, in general, certainly any provisions that affect the actual individual tax forms get to be a problem

if they are not passed. If those decisions are delayed into the fourth

quarter, I would certainly agree with that. But I honestly am not

up to date on the details.

Senator BAUCUS. All right. Well, just generally. In principle. If

the facts are as I presented them, and they are the facts that were

presented by Commissioner Everson.

21

Mr. ROSSOTTI. Without question, it becomes more of a problem,

for all of the reasons you cited, as those issues are in suspense.

Senator BAUCUS. Yes. Do you have any thoughts on that, General Walker?

General WALKER. If the facts are as you presented, I think the

answer is, clearly, yes. That does not mean you should or should

not do what you said.

Senator BAUCUS. Right. Right.

General WALKER. But that is, clearly, yes. If I can come back

really quickly to what Senator Grassley mentioned a second ago.

As a certified public accountant who has spent most of my career

in the private sector before coming into the government, I can tell

you that, clearly, the complexity with regard to book and tax differences is shown in Schedule M–3.

You ought to do what is right from an economic standpoint, from

a public policy standpoint, with regard to the tax code. Namely, you

need to streamline it, simplify it, lower the rates, broaden the base,

and deal with a number of these other issues. Do not worry about

the accounting. Let the accountants worry about the accounting.

Focus on the public policy and the economic aspects.

Senator BAUCUS. Now, is it not true, and I asked Dr. Carroll this

point, that if we adopt one of the main recommendations of the

panel, which is to basically work toward a consumption tax, does

that not favor new business, new capital at the expense of old capital?

Will there not be a huge transition cost to bail out those folks

that will not be able to take advantage of current provisions where

they get to depreciate their capital expense, but rather businesses

can only expense?

Dr. CARROLL. I think one of the very important decisions that we

face in thinking about business tax reform, and tax reform more

generally, is putting in place a set of incentives and a new tax system that will encourage growth, but also——

Senator BAUCUS. What do we do about old capital? I have limited

time here. Ford, GM. What are we going to do about their depreciation? That is gone? Transition costs?

Dr. CARROLL. I think, in just a couple of sentences, a policy that

promotes growth will be focused more on encouraging new investment as opposed to benefitting past decisions. That would encourage growth more than other policies.

That said, I think as we approach business tax reform or tax reform more generally, we have to be very careful that we are sensitive to changes in market valuations, changes in asset values,

and the adjustment costs that could occur with fairly large changes

in the tax system. That might cause a set of descriptions and——

Senator BAUCUS. One more question. That is, how do we get from

here to there? This is obviously a hugely complex question. We are

in a massive country. I mean, it is all kinds of people, different interests, and so forth. This is the U.S. Congress. We represent the

people. Congress does not lead very much. Congress follows.

Congress basically follows what the people of the country want

us to do: mortgage interest deductions, bail out New York City,

9/11 issues, Katrina, health care questions. I mean, we follow what

the people want us to do. Congress meets annually and there is alVerDate 11-MAY-2000 16:21 Aug 20, 2007 Jkt 095484 PO 00000 Frm 00025 Fmt 6633 Sfmt 6633 36913.000 SFIN1 PsN: SFIN1
22

ways a new Congress every year. So, how do we deal with this? I

am asking a process question.

I firmly believe, and I liked your response to it, there is only one

way to deal with this, only one, and that is something similar to

what we did in the early 1980s with Social Security, with the

Greenspan Commission.

When President Reagan nominated Alan Greenspan to head the

Commission on Social Security, he appointed a lot of high-profile

people to the panel. Both ends of Pennsylvania Avenue shook

hands on the deal.

Jim Baker basically called Tip O’Neill and said, hey, what are we

going to do here? Baker said, all right, are you Democrats willing

to reduce benefits if we Republicans are willing to raise taxes? Yes.

They shook on it. They all joined hands and that is how we got it

done. Politically, it is very, very, very difficult, if not impossible, in

my judgment, for this Congress alone to meet and solve this problem.

I will just make another quick point here. We—and Mr. Chairman, you know this very well—a couple, 3 years ago, Senator

Voinovich and I had this idea of a Tax Reform Commission, basically set up along the lines I suggested. What happened? We had

it in the bill.

The White House called and said, no, they did not want it. They

were opposed to it. They wanted to have their commission. Right

away, it was a dead duck. It was gone. Why? Because it was

cooked. It was a cooked deal, with ulterior motives. That is why it

was dead on arrival. That is why, I hate to tell you guys, this tax

reform proposal is basically dead on arrival. But it is a good springboard from which we can talk about these questions.

Now, that is why I think you have to do something that is perceived as objective, that does not have ulterior motives, where people come together, both political parties. I would just like your idea

on process. How are we going to get from here to there, General

Walker?

General WALKER. Senator Baucus, process is of critical importance because we have not made much progress. Washington has

proven over the years to be a lag indicator, and I believe it is going

to be critically important that you do something along the lines of

what Senator Voinovich and Congressman Wolf have recommended.

They have legislation that is pending right now and are trying

to get bipartisan support for, that would have a capable, credible,

high-level, bipartisan entitlement and tax reform commission with

a defined scope that could look at all the great work that has already been done by the many commissions before. It is based on

the lessons from which commissions worked and which did not in

the past, such as the 1983 Greenspan Commission, and others. The

Commission could, I think, report within 6 to 9 months if it was

comprised the right way so that Congress would be able to——

Senator BAUCUS. I know I am taking time here, but two points.

You are going to have to put revenues on the table, as well as

taxes. Everything is going to have to be on the table for it to work,

otherwise it is dead.

General WALKER. And their bill has that.

23

Senator BAUCUS. All right. Good.

Second, the composition of the commission has to totally pass the

smell test.

General WALKER. It does.

Senator BAUCUS. It cannot in any way be perceived as political.

General WALKER. And their bill is designed to do that.

Senator BAUCUS. That may be. I am not sure about that point.

But I am just saying, general principle. You and I both agree on

the approach and the principle. Other thoughts?

Mr. JOHANNESEN. May I comment on that?

Senator BAUCUS. Yes.

Mr. JOHANNESEN. It is a monumental task. As I study what is

out there, there are so many interests, as you have mentioned, and

there are so many things to accomplish, that I think trying to do

them all—it would be nice to have something done in 2 years, I just

do not know if it is realistic.

I think you see a lot of things in process that you could accomplish when you focus in certain areas. I think possibly we may

have to bite off what we can chew as we move forward in a very

deliberate pace. It would be great if we could get it done 2 years

from now. I am not sure we can.

I am very concerned about the transition, as you have mentioned. One thing that we maybe need to consider a little bit as we

go through here is, we have a lot of history on what works and

what does not work in tax policy.

I am not sure we have ever studied it very well. I do not know

if we have ever really done a return on investment of the type of

things that we suggest for investments or incentives. If we were to

take that approach and maybe study that a little bit first, we might

learn something.

I know we spend a lot of time revenue projecting before we put

laws in place. I just do not know if we spend much time evaluating

our return, as a government investor in our economy, what we get

back on that.

So as much as I would like to have it done quickly, I am not sure

it is workable. We do have a complex country. I think we expose

ourselves to risk in what we might do if we are wrong in some of

our decisions.

Senator BAUCUS. I agree.

Mr. JOHANNESEN. So I think a little bit more deliberate, intentional approach, but not a slow approach. That is not what I am

trying to say.

Senator BAUCUS. That was my last point. I very much agree with

that. We are too ad hoc around here in this town. Way too ad hoc.

We need to think much less tactically ad hoc and much more strategically, kind of start thinking about planning a little bit, thinking

ahead a little bit, addressing what other countries are doing, and

so forth. We need a process that helps make that happen and encourages it.

General WALKER. Senator, we spend $700 to $800 billion a year

in foregone revenues through tax preferences, whether they be corporate or individual. They are not subject to the budget process.

They are not subject to the appropriations process. They are not

part of the normal financial reporting process. They are not part

24

of the President’s Program Assessment and Rating Tool (PART) review.

We need to start analyzing which of these tax preferences work

and which ones do not, whether they are generating a return on

investment, and who is benefitting from them. Even the R&E credit, which clearly has strong conceptual merit, was designed many

years ago, and we really have not analyzed how much of this R&E

credit is based upon basic research and therefore can fuel our competitive posture in long-term economic growth, versus applied research. You are right on. We need to do this and we need to do it

beginning now, and forever.

Senator BAUCUS. Yes. I lied. I said that was my last point. It was

not my last point. Now this one really is. [Laughter.]

The CHAIRMAN. So none of you guys follow on.

Senator BAUCUS. That is right.

In my experience since I have been in the Congress, basically in

the last 15 years or so, most decisions made in this committee are

not policy-driven, they are budget-driven. We have forgotten policy.

We are not paying any attention any more to what is the policy

consequence of this. Rather, we are trying to split the difference on

the budget.

The Budget Committee gives us the orders, we have to cut so

much here, do so much there, and so we tend to want to spread

the pain as widely as we can and not to hurt people very much,

or hurt them less, and it is not policy-driven, it is all budget-driven.

It is a huge, huge problem.

I just very much hope, Mr. Chairman, that we could find some

way to get out of that trap, because the timer is ticking. I have

gone way over my time, and I apologize.

The CHAIRMAN. Senator Hatch?

Senator HATCH. Well, I am very interested in what Senator Baucus has said. It sounds to me like he is talking simplification like

all of you seem to be talking.

If that is so, I hope we can get some leadership on both sides to

be able to make some of the changes that really need to be made

in our tax code, because it is a god-awful, pathetic thing when you

stop and think about it. We have made it that way, and I think

it is time for us to straighten it out.

I have questions for all of you, and I will have to submit them

because there will not be enough time.

[The questions appear in the appendix.]

Senator HATCH. But Mr. Bernard, you mentioned the importance

of reforming our tax system to improve the competitiveness of U.S.-

based multinational corporations.

Now, I have long worked to improve our international tax rules

to try to accomplish this. How specifically should our tax system

be changed to make the U.S. a more attractive destination for new

business operations? One other question. Do you favor moving to

a territorial system of taxation or to completely reform Subpart F

and the foreign tax credit to make them work as they should?

Mr. BERNARD. First of all, let me respond in my individual capacity, because I am not sure we have consensus among TEI’s 6,200

members on these questions.

25

I personally think that two things that would significantly improve U.S. competitiveness are, number one, a major rate reduction

on the corporate side, putting us more in line with our major trading partners. The second thing is that I personally do believe that

a territorial system ought to be our target at some point in the future. The transition may not be easy, but other countries have done

it. Canada, as an example, went to a territorial system not that

long ago. We can learn from some of the other countries’ experiences on how to do it right.

So I think those two things, in and of themselves, would get rid

of many of the problems inherent in the system because of Subpart

F, including the foreign tax credit abuses that might be perceived

to be in the system. Those two things I, think, in tandem would

greatly improve American competitiveness.

Senator HATCH. I want to compliment each of your for your

statements. I read them all. I have to say that I think you have

added a lot to our understanding here on the committee.

Let me just conclude with you, Dr. Neubig. I thought your testimony on why businesses generally prefer a lower tax rate to immediate expensing was extremely interesting to me. However, it

seems to me your remarks focus on the viewpoint of the business

community, as probably they should.

But as an economist, do you believe that expensing is superior

to lowering tax rates? For purposes of maximizing economic

growth, are we limited to one or the other? Is there a feasible way

we could adopt immediate expensing and also lower the corporate

tax rate at the same time?

Dr. NEUBIG. I think it would be very difficult to lower marginal

tax rates and have 100 percent write-off in the first year. I guess

I do have some disagreement with a number of my academic colleagues in terms of what really is the power of expensing versus

lower marginal tax rates.

Maybe a simple example would be helpful. If I am a small business and I am doing some R&D, and I have a great idea, I am trying to hit the home run, and I invest $1 million in this new copyright and I am going to be able to sell that idea to another corporation a year from now for $100 million because it is a great idea,

would I want to write off that $1 million in the first year or would

I like to have a lower tax rate on that $99 million of gain?

That first-year write-off does have some benefit in terms of the

time value of money which is the equivalent of a zero interest rate

loan. But having that $99 million of gain taxed at 25 percent

versus 35 percent marginal tax rates would matter more.

You oftentimes will hear academic economists say that expensing

is the equivalent of a zero tax rate. I do not agree with that. It is

a zero tax rate if you read the fine print on the risk-free return on

that new investment. It is still a high marginal tax rate on the efforts from entrepreneurship, innovation, and effort.

So I think oftentimes the benefits of expensing are greatly overstated. The benefits of marginal tax rates for R&D, innovation,

international competitiveness are oftentimes not fully recognized.

Senator HATCH. All right.

One last question, if I could. It is my understanding that the

U.S. corporate tax rate is one of the highest in the world. However,

26

deductions and credits lower the effective tax rate below the marginal rate.

Now, if our effective tax rate is considered, how does the U.S.

rate compare with that of other nations?

Dr. NEUBIG. I think there are some studies done by Michael

Devereux. I am not intimately familiar with them. I think, clearly,

there are lots of accelerated deductions and lots of credits that

lower average tax rates below the statutory marginal tax rate.

Now, I guess I am not sure that the average tax rate is as meaningful as the statutory marginal tax rate.

Senator HATCH. Yes. Or the effective tax rate.

Yes, General Walker?

General WALKER. Based on work that we have done, Senator, the

effective tax rate, corporate tax rate, in the U.S. is roughly the

same and competitive with the G–7 countries. We have done some

work with regard to the G–7.

But again, it is true that that might be accurate. On the other

hand, what is the compliance cost of getting there and what is the

economic opportunity cost associated with getting there? These

points are important, too.

Senator HATCH. That is good. Anybody else care to comment on

that?

Mr. JOHANNESEN. I would like to briefly comment. I do not disagree with the lower rate theory at all. I think it is right on. One

thing I would like to mention, though, with respect to mid-sized

businesses, is that access to capital is a big deal to them. Whereas,

a public company has access to the capital markets from that

route, closely held businesses generally do not have that.

So, while I understand the theory on the timing position, I also

think there is some advantage to that because of the fact that, if

you can create cash in a closely held business without access to

other marketable capital, that is valuable, short-term. It does give

them the ability to stay in existence, to continue to operate, and

be successful.

So there is a place, I think, for some expensing that is valuable,

but I certainly would not disagree at all with anything Dr. Neubig

said in terms of the long-term benefits of lower rates.

Senator HATCH. Thank you.

Senator Wyden?

Senator WYDEN. Thank you all. I think this has been an excellent panel. I would just start by saying, gentlemen, my sense is

that, 20 years ago, Ronald Reagan, Bill Bradley, and a bipartisan

group really got it right.

I have introduced legislation, the Fair Flat Tax Act, which essentially tries to update that work. It is different. Clearly, the issue

we are examining today, the question of corporate taxes and our

role in the global economy, has to be handled differently.

But a little over a month ago, Senators Mack and Breaux sat

where you all are, and I asked them both whether they agreed

that, philosophically—not in terms of all the rates and the like, but

philosophically—did they think what happened in 1986, where the

focus was on driving down rates and getting rid of preferences, was

still sound today and would be the makings of another bipartisan

effort? Both of them, a Republican and a Democrat, said yes.

27

They have differences of opinion in terms of a rate, and certainly

many are concerned about the corporate rate, and I understand

that. But philosophically, they said if Congress, in 2006, does what

was done in 1986, Congress would be on target.

I would like to go down the row and just ask you whether you

think that the philosophy of what Ronald Reagan, Bill Bradley,

Dan Rostenkowski, Bob Packwood, that bipartisan group did is still

sound.

My question is not about maybe altering the rates in various

areas, because I think that clearly is something that will have to

be debated. But do you think, philosophically, what was done in

1986, which is what I am trying to do in my bill, is still sound?

Let us just go down the row.

Mr. JOHANNESEN. I would agree with that, very much. I think

the business community would as well. Nobody wants to give anything up. That is hard, right? I mean, when you have something

in your pocket, it is hard to let it go. But I think if a simpler tax

structure with less preferences went into place and the business

community understood it, I think they would support it.

Senator WYDEN. Mr. Bernard?

Mr. BERNARD. I agree that imposing a lower rate of tax on a

braoder base—with fewer preferences—is still sound policy. The

one thing that we have to do then is be disciplined and not go back

every year and tinker with the system and add to the complexity.

Senator WYDEN. Well, three cheers for you! In fact, that is one

of the changes a number of people have suggested. Mr. Rossotti has

made a very compelling case.

I am looking at it in terms of modifying my original bill to try

to see if we can get in this room a bipartisan agreement, try to find

some procedures that could be put in place to keep us from sliding

back, which I think is the single biggest problem we have had since

1986.

Dr. Neubig, when I listened to you, I think you and I were singing out of the same hymnal. But can we get you on the record on

this 1986 philosophical issue?

Dr. NEUBIG. Well, Senator Wyden, I was serving for President

Reagan in the Department of the Treasury during development of

Treasury–1, the President’s proposal, and the 1986 Tax Reform

Act. Absolutely. We have seen the benefits of the 1986 tax reform.

I’m philosophically in complete agreement.

Senator WYDEN. Mr. Rossotti?

Mr. ROSSOTTI. Yes. I can be very simple. The first principle, as

I said, is lower rates are better than preferences.

One of the things I have said to people that sort of gets attention

on this is, when you stop to think about it, the entire income tax

system, corporate and individual, raises somewhere between a little

more than 9 and 10 percent of GDP. Yet, we have a top rate of 35

percent. Why do you need 35 percent to raise 9 percent? The answer is, that is because you have a complex tax code and it makes

no sense.

Senator WYDEN. Dr. Carroll?

Dr. CARROLL. Generally speaking, having broad-based low rates

is a very good principle. I think a number of witnesses here, in

28

their opening remarks, mentioned that as a principle for reform in

the business area, or more broadly.

I think it does depend on the starting point as well. Back in the

early 1980s, the top individual rate was much higher than it is

today. It is also important to focus on the effective marginal tax

rates on labor and capital.

Just as an observation, I think starting from where we are today,

one of the key drivers for improving living standards is lowering

the tax, not only for all taxpayers, the marginal tax rate on all taxpayers, but also focusing on savings and investment has very beneficial effects to promoting growth.

Senator WYDEN. I think those are fair comments, coming from

the administration. What I was interested in was trying to focus

on what I think was the heart of 1986, which was to give everybody the chance to accumulate wealth. I think that somehow we

have managed to move away from that, and I think this is an area,

again, that we could work on in a bipartisan kind of fashion.

General Walker?

General WALKER. The answer, Senator, is the same as I said last

time. Yes, lower rates, broader base, with a big, big footnote: if you

want stability, then we need to make sure that it is fiscally prudent and sustainable.

We are far out of balance today, and our long-range fiscal situation is getting worse day by day. So if you want to be able to

achieve it, then you need to consider not just 1 year, not just 5

years, not just 10 years, but how we’re likely to look over the

longer term, or else by definition you will not be able to sustain it.

Senator WYDEN. Fair comment. This is one you all might want

to get back to us on the record about, but it was something that

came up repeatedly in 1986. Senator Bradley, I know, was interested in it, Senator Packwood was interested in it.

That is, I would be interested in your judgments. For example,

it is clear, Mr. Johannesen, in Des Moines you have a lot of clients,

medium-sized businesses, who would have views about this question.

What would be your sense of, how low does the rate have to be

before businesses do not fight like crazy to come on in here and add

preferences? In other words, people come to the Senate Finance

Committee constantly because they feel they have to get rates

down.

But I heard Senator Bradley, Senator Packwood, and others ask

repeatedly in 1986, how low do rates have to go before preferences

become a bit less important to your clients? Mr. Johannesen?

Mr. JOHANNESEN. Well, I can say with absolute certainty that if

it is zero, no one will come.

Senator WYDEN. Right.

Mr. JOHANNESEN. So we are safe there. [Laughter.]

Senator WYDEN. There will not be any protest rallies if the rate

is zero. I got you.

Mr. JOHANNESEN. Probably a little more realistic, I think at 30

percent you would still get visits. That is pretty low, though. At 25,

which I think is what a lot of the panel members are suggesting——

Senator WYDEN. Is that what you said, Dr. Neubig?

29

Mr. JOHANNESEN. Twenty-five, to me, just seems like the right

number. I cannot cite a study, but at 25 percent I have talked to

various business owners. When you were discussing the estate tax

revisions that did not get through, their whole perspective changed

when the rates became more reasonable.

Then all of a sudden, they would not have been very happy with

that. But I think 25 percent on the business tax would be something that would reduce your time spent with visits. But I think

you do not even have a chance unless you get at least down to 30.

Senator WYDEN. I think I am right on the clock in terms of being

able to vote. Could the others of you get back to us on that—this

is as much because you are practitioners in the field—as to your

sense of what it would take to get preferences to be less important?

My understanding is that now, because the Chairman, Senator

Baucus, and I all want to ask you some additional questions, we

are going to have a brief committee recess of the Finance Committee, and then we will all come back and ask you additional

questions. But you have been an excellent panel, and I know we

are going to have a lot of things to ask you about in the days

ahead.

[Whereupon, at 11:33 a.m., the meeting was recessed, reconvening at 11:36 a.m.]

The CHAIRMAN. We have heard it said over and over again that

the U.S. tax rates on business income need to be lowered. We have

heard that again today from several of you. We have heard knowledgeable people say that the tax system will be more equitable, efficient, simpler, with lower rates to a broader base.

Most people can agree on lowering the rate, but when it comes

to broadening the base, then that is where it gets very tricky. How

should Congress go about picking the winners and losers in relationship to the current system?

One way would be to start with a blank slate and the lowest possible rate, then see how much a particular tax expenditure raises

the tax rate and then decide if it is worth it. I am going to ask Mr.

Bernard and Mr. Johannesen, what tax benefits would businesses

be willing to give up in order to get a lower rate?

Mr. BERNARD. Thank you, Mr. Chairman. I can say on behalf of

the TEI group, that this is going to be the most difficult part of this

process. Everybody has their favorite incentives, obviously.

But I think that any incentive that is targeted for specific industries or for specific activities should be open to fair and open discussion on whether it should be continued. Whether that means a

clean slate or not, I am not sure.

But TEI is certainly open to debate on each and every incentive.

The section 199 deduction is very well-intentioned, but it is very

difficult to comply with. There is a high level of compliance costs

on that.

Even the research tax credit, in my personal experience, has

been unbelievably heavy in the compliance burden that it creates

for Kimberly-Clark. It also creates a lot of controversy on the back

end with the IRS.

As a result, it is not an example of an incentive that we can rely

on because we always have questions about what qualifies and

what does not. Then on the back end, we have debates with the

30

IRS about what qualified and if our decision on the front end was

correct.

So that is just one example of an incentive that many members

of TEI love because it creates great value for them, but it is one

of those situations where there are winners and there are some

that just are not able to take much advantage of it.

The CHAIRMAN. All right.

Mr. Johannesen?

Mr. JOHANNESEN. Thank you, Mr. Chairman.

Mr. Bernard, I agree with you. I think it is going to be difficult

because people do not want to give up what they have. However,

I would probably pose the question a little differently in that, back

to what I mentioned earlier, what type of return is the government

getting on its investment and incentives?

That is where I would probably start, because it will be difficult

to expect people to step forward and volunteer. Yet, business people

understand return on investment. They understand that something

has to give in order to reap the rewards of the lower rates.

So volunteering, it would be tough to find people stepping forward, but a rational basis of evaluation of what has been working,

what has not, and where we are getting a good return on our investment, I think, is the appropriate approach to take.

General WALKER. Mr. Chairman, can I jump in there, if possible?

The CHAIRMAN. Yes.

General WALKER. I would like to add to that. I think it is very,

very important that the Congress start analyzing these different

tax preferences, which ones are working, which ones are not, what

return on investment are we getting, in what form, and who is benefitting from them.

Then I would specifically suggest that you want to minimize the

rate and broaden the base, and that means, if in doubt, leave the

preference out. I do not think it is realistic to expect that a business is going to come up here and say, well, get rid of this, get rid

of this, and get rid of this. But I do think you could probably gain

agreement that you want to try to minimize the rate.

And if you are going to minimize the rate, by definition, it means

you are going to have to limit the number of tax preferences. Now,

you are going to have transition issues that have to be dealt with,

as Senator Baucus talked about. Those are real, and they have to

be dealt with.

That is why you may need some type of commission, informed

with analyses from GAO, CBO, JCT, and others, to try to help

make a more evidence-based decisions with regard to these matters.

The CHAIRMAN. Senator Baucus?

Senator BAUCUS. On that last point, this gets pretty complicated.

Let us take the employer-provided deduction for health insurance.

That is big. That is extremely big.

That plays right into health care policy because today in America, the more you work for a big company, the wealthier you are

and the better your health care, basically.

The more you do not work for a big company, the more you are

not wealthy. Your health care is not as good, except for emergency

care, and Medicaid helps a little bit. So, if we were to eliminate

31

that preference, that would radically change our health care system, maybe for the better. But it has huge consequences apart from

tax theory.

General WALKER. Senator, I agree. I have testified before that

there are two aspects of the tax preferences for health care. One

aspect is the employer deduction. The other aspect is the individual

income tax exclusion and the exclusion from the payroll tax base.

I would respectfully suggest that you need to limit the exclusion.

You need to limit, both for income taxes for the individual, as well

as for the payroll tax base, and you may want to target it.

In other words, you may want to allow some exclusion to some

level of coverage, but not what we have right now, which is very

unaffordable, unsustainable, disassociates people from the cost of

health care, and creates huge winners and losers under our current

system. So you are right. It is not just looking at the tax, it is looking at social policy and other areas that would have to be looked

at.

Senator BAUCUS. Which raises another question. Let us say we

have the pure result here that is good: broaden the base, lower the

rates, et cetera. Much more simple. Well, Congress meets every

day. So what limitations do you have on it? Are you suggesting

what Congress could and should not do that will then complicate

the code again? We are back in the soup again.

Or are you saying that, well, this is cyclical, it ebbs and flows.

Let us get a real efficient system here. Then gradually, as happened after 1986 when we started reacting to the people, the people we work for, we started to change the code and complicate it

further.

General WALKER. I come back to what you said, Senator Baucus.

Washington is a lag indicator. It is reactive. Human beings will always come and ask for more. That is a normal human condition.

It will always happen.

We need a more disciplined process. We need to start with understanding what already exists, what is working, what is not

working. You are going to need some type of commission.

And even if the commission cannot get you to the point where

you can make decisions in the next Congress, at least it would help

to set the table for the next presidential election. This would increase the likelihood that whoever is elected President will end up

having to take this issue more seriously than otherwise might be

the case.

Senator BAUCUS. Any other thoughts on the questions that General Walker and I have been discussing from anybody else on the

panel? That is, the health care exclusion, for example.

Mr. ROSSOTTI. Well, one comment on the general question of

preferences versus rates on the business side, is that I actually do

not think that you could ever get there by trying to analyze each

one and seeing which one is working or not, because I do not think

you could ever come to a conclusion on that. It is very difficult.

I think the conclusion that we, all nine of us on the Tax Panel,

came to is that the only real way to do this is to do it with a clean

slate and, on the business side, eliminate all the preferences and

get the lowest possible rates.

32

Let me give you an example of why I say that. Take the R&E

credit. Mr. Bernard made some comments about how it is difficult

to rely on that. For most of my career, 36 years, except for 5 years

in the IRS, I was in the technology business. Even now, on the investment side, I am in the technology business. We had the R&E

credit for most of that time.

I cannot remember a single time, not only in my company but

anywhere in the technology business, that anybody ever made a decision on whether to undertake an R&E project on whether it was

going to be eligible for the R&E credit or not, because nobody even

knew whether it would apply.

It was something that the tax department did at the end of the

year. I see him shaking his head. We were very glad to get the tax

credit, do not get me wrong, in my company. We loved it. We loved

to get it.

Senator BAUCUS. And what if you did not have it?

Mr. ROSSOTTI. We never made any decisions based on it.

Senator BAUCUS. What if you did not have it? What if it was not

there?

Mr. ROSSOTTI. If we had not had it, we would have had a higher—if you came to us and said, would you give up the R&E credit

for no reason, we would have said, oh, no.

Senator BAUCUS. No, no. That is not my question. What if it were

not there?

Mr. ROSSOTTI. If it were not there, it would not have affected any

decisions we ever made because we did not know in advance

whether we were going to get it, first of all, and second of all, if

we were going to get it, it was such a small factor relative to the

return that you would expect on an R&E project that it was not

going to make a difference.

So, really, the best thing to do—I think the only thing to do if

you really want to get the tax reform—would be to start with a

clean slate. What we really want is to treat everybody equally, to

get the lowest possible rates, get rid of all the preferences, and give

everybody the benefit, as Dr. Neubig said.

The one thing that you do know is that, in any business decision

to make an investment, the tax rate is going to play into that decision. The statutory tax rate is going to play into the decision. All

the other stuff may or may not play, and most of the time does not

play.

Senator BAUCUS. So you are basically saying none of these preferences matter at all to business. That is what you are saying.

Mr. ROSSOTTI. I am saying, if you were going to go through tax

reform, the only way to do it, I believe, is to go to a clean slate and

get the lowest rate possible.

Senator BAUCUS. Does anybody here think any of these preferences help business at all, current preferences?

Dr. NEUBIG. Senator Baucus, I think there are definitely some

provisions in the tax code that definitely are worth the costs.

Senator BAUCUS. What are some?

Dr. NEUBIG. Well, I think what we are missing is the systematic

approach that Mr. Walker suggested in terms of systematically

looking at the benefit-cost analysis of each of the tax provisions.

That really is completely lacking in our tax policy discussion.

33

I think one of my experiences with the 1986 Tax Reform Act, and

also the Advisory Panel, is by just saying, these are gone, they do

not have any reason to be in the tax code, misses the point that

some of them are probably worthwhile, some of them probably not,

and we need some systematic way to evaluate whether or not they

are benefitting.

Senator BAUCUS. Well, that is a nice, high-sounding principle. I

tend to agree with Mr. Rossotti, despite what General Walker said.

I do not know how the heck you are going to determine what the

real effect of these preferences really is.

Dr. NEUBIG. Both the Treasury Department and the Joint Committee on Taxation are spending resources looking at the dynamic

analysis of tax changes. I would suggest that, in addition to looking

at dynamic analysis, they should be having the capability of doing

benefit-cost analysis on specific tax provisions.

General WALKER. Senator Baucus, these are not irreconcilable

points. You could, for example, do what Charles Rossotti suggested,

and that is, start with a clean slate: there are no tax preferences.

Then you could take it the other way to be able to say the only

way that you would consider anything is if there is some type of

ROI cost-benefit analysis to demonstrate that it makes sense.

So either way we need to be able to make more evidence-based

decision making. The ultimate goal should be, minimize rates, minimize preferences, and maximize the level playing field that we

have on a global basis.

Mr. BERNARD. Senator, if I may on that point, I would answer

your question by saying the preferences that we need to keep in

the code, perhaps, are those that allow us to be competitive.

Senator BAUCUS. Name some, please.

Mr. BERNARD. An example would be a capital cost recovery system. Perhaps the one we have is fine relative to our trading partners and our competition overseas, but many countries offer not

only lower tax rates, but also accelerated depreciation. So that is

an example of an incentive that I think would have to be kept,

even if rates were dramatically lowered.

Senator BAUCUS. What do other countries do with respect to

R&D? Do any other countries have any tax incentives at all to help

their companies spend more on research, et cetera?

Mr. BERNARD. Yes, Senator, some countries do have incentives.

For example, in the U.K. you are allowed to deduct 125 percent of

the R&D expenditure. In Australia, there is a similar beneficial incentive on R&D.

Senator BAUCUS. That is a high percentage.

Mr. BERNARD. Pardon?

Senator BAUCUS. That is a high percentage.

Mr. BERNARD. Well, 125 percent of the amount of the R&D expenditure. So the U.K. tax rate is 30 percent, so it is the equivalent

of a 7.5 percent credit. It is 30 percent of the 25 percent incremental deduction.

Senator BAUCUS. Mr. Rossotti, besides the tax code, what are

some of the reasons why some companies go offshore and do their

research in other countries?

Mr. ROSSOTTI. Well, I mean, there are a lot of reasons besides

taxes. For example, in India today there is a tremendous wealth of

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technology talent that is not only lower cost in some cases, but actually is very, very high quality, to the level where it is hard to

match in the U.S. So people would be doing that for reasons that

are not driven by tax.

I think the best that you could do, really, is to make sure that

the tax is not the main influence, or a significant influence, or to

keep it neutral, and then you could compete on the economic factors as opposed to the tax factors.

What I think, honestly, is happening is that people are moving

some of their intellectual property assets and some of their income

reporting assets to certain low-tax countries for reasons that are

really primarily tax-driven as opposed to because of any other reason.

I think that is the kind of issue that, ideally, would be resolved

through tax reform. It is not easy to do, but that would be the kind

of thing that you would want. You do not want to stop the international competition to find the best quality technology talent.

Senator BAUCUS. I was over in India not long ago in Bangalore,

visiting the Jack Welch Technology Center. GE has this huge research center there in Bangalore. I talked to the head guy there.

I said, why are you here? Why are you in Bangalore? His answer

was, well, this is where the best talent pool is, here in India, for

all the work that we are doing.

I am not a big technology expert, but going through the many

buildings, I was very impressed. They are doing, seemingly, a lot

of good stuff there. I said, where is the next greatest technology

pool, next after India? China. I said, where are we in the United

States? He said, you are kind of down there. You are a way down

there.

I said, what do we need to do to get up there? He had two answers: one is education, the other is health care costs. For him,

health care costs are a major reason why it is difficult for American

companies to do business and to compete. Second, you have to

spend a lot more time on education. You have to get math and

science. You have to get your people up there.

General WALKER. On that, Senator, I think we have to keep in

mind that companies do not have duties of loyalty to countries.

Senator BAUCUS. That is clear.

General WALKER. Companies have duties of loyalty to their

shareholders and investors.

Senator BAUCUS. Right.

General WALKER. That means, by definition, they want to maximize revenue, minimize expenses, maximize net income, maximize

ROI, and maximize free cash flow. So that is a lot of what is going

on.

Plus, the talent pools are different around the world. We are not

even top 20 in science and math scores at the junior high and high

school level. And health care costs are arguably the number-one

competitiveness challenge for American business, in addition to a

huge fiscal challenge for not just the Federal Government, but also

for State governments because of employee and retiree costs.

Senator BAUCUS. And maybe you are correct that the tax code

should not get all involved in that debate on what to do about

health care costs.

35

General WALKER. I am suggesting that the tax code is part of the

problem with our health care system. It is fueling the problem.

Senator BAUCUS. But you are suggesting, if you take away the

fuel, after the fuel is removed, as a general rule we should not use

tax policy as a tool to address American health care policy.

General WALKER. Not anywhere near the extent that we do

today. I am suggesting that you have to have three things for a

system to work: incentives for people to do the right thing, transparency to provide reasonable assurance they will, and accountability if they do not.

We do not have any of the three in health care. In fact, our tax

incentives are part of the problem because we are reducing the

transparency of the cost of health care to individuals.

Senator BAUCUS. Right.

General WALKER. We are significantly subsidizing some, and others not at all. Clearly, we are going to have to look at the tax provisions as part of comprehensive health care reform.

Senator BAUCUS. All right. Thank you.

Senator Wyden?

Senator WYDEN. Thank you, Senator Baucus. I think Senator

Baucus’s points about the tax code as it relates to competitiveness

are extraordinarily important. One of the reasons that I want to

clear out a lot of the clutter in the code is that, if you are going

to be in a position to make some of the structural changes that

Senator Baucus has talked about in order to look at our competitiveness for the long term, you do not have any resources if you

throw 14,000 tax breaks at it, as Mr. Rossotti is talking about.

So I want to build on the earlier discussion and incorporate some

of Senator Baucus’s thinking on this. I mean, Senator Breaux and

Senator Mack both said that 1986 could be a solid principle for bipartisan tax reform in the days ahead. All of you, to a person, have

said that as well.

My question then is, what might be done to prevent the creep

that really did so much to unravel what was done in 1986? In other

words, basically as soon as the ink was dry on this 1986 bill that

all of you have said is a solid philosophical basis for going from

here, and Senators Breaux and Mack said was a good, solid philosophical basis for going from here, we started adding to the whole

thing and started unraveling it.

Now you basically see resources go to these 14,000 tax breaks

that might go for the kinds of things Senator Baucus is talking

about that could really deal with the global economy in a structural

kind of way.

I would be interested in your thoughts, because I am actively

looking at this as part of my Fair Flat Tax Act, about what can

be done to keep all the clutter from just creeping back in and unraveling something that all of you have said is structurally sound:

low rates, emphasis on getting low marginal rates, and getting rid

of preferences.

General Walker?

General WALKER. In addition to making sure that you consider

the fiscal implications at the outset, I think that you need to think

about how you might be able to require an independent professional analysis of proposed changes that would have a material efVerDate 11-MAY-2000 16:21 Aug 20, 2007 Jkt 095484 PO 00000 Frm 00039 Fmt 6633 Sfmt 6633 36913.000 SFIN1 PsN: SFIN1
36

fect on the budget and on our fiscal position as an integral part of

Congressional consideration before any changes to the code, after

you rationalize the system.

Senator WYDEN. That is probably too logical at this point, but I

think those are exactly the kinds of ideas we are looking at.

Dr. Carroll?

Dr. CARROLL. I think for the tax system you have to set out clear

goals and objectives. You want a tax system that interferes with individual and household decision-making as little as possible.

In areas where particular preferences and incentives are considered, a very, very high standard needs to be applied, and the analytical tools need to be developed to do the cost-benefit analysis to

support or not support consideration of a particular incentive or

provision.

Senator WYDEN. Mr. Rossotti, since I only quote you about four

or five times a day on your 14,000 breaks, three for every working

day, what do we do to prevent the creep that basically brings all

this stuff back?

Mr. ROSSOTTI. During this Tax Panel, I personally enjoyed working on it because the nine people that were members were really

trying their best to come up with the best answers.

That was one of the questions we talked about, and we thought

about whether we should put a recommendation in the report to

address exactly that question. You will notice there is not any recommendation in the report because we really could not come up

with an answer.

I think the reason that we could not is that this is inherently

something that is part of a political process here in Congress. It is

not a technical issue, it is a political process issue. That is not my

field of expertise.

I think what others have said, I would generalize this way. If you

really want to do that, you have to impose something on the process here in Congress that makes it more difficult to pass these

things than it would be as it is now, whatever that may be.

Senator WYDEN. Right.

Mr. ROSSOTTI. And it is probably difficult enough. But it is a political question in terms of how Congress legislates, which is why

we did not address it here. Beyond just simply saying something

that would have to make it more difficult, I do not know.

There is one other idea I could throw out to you—and I know

this is controversial—which is, to some extent, there are parts of

this that could be, in effect, taken outside the legislative process by

delegating it to another group. This is where the use, potentially,

of Generally Accepted Accounting Principles might come in.

I will take the example of Social Security, which is very political.

Congress makes the decision or has a process to determine how

much it wants to adjust Social Security, through legislation,

through cost of living, and so forth, but it does not legislate precisely how cost of living is measured.

It has some technical experts in the Department of Labor and

other places that have been established as independent technical

experts to simply measure how much the cost of living goes up

every year. That is a little bit controversial, but still it is done in

a professional way.

37

Then the legislative process makes the next step, which is, all

right, based on that, how do we adjust what people get? I would

suggest that, with respect to business income, the issue of measurement of what a corporation is actually earning in a year is a

question where there is a very elaborate process already in place

that is overseen by the government that comes up with that number.

I think it might be very worthwhile to consider separating out

how you measure that income from how much tax you want to impose on it. By doing that, if you could ever make that separation,

one of the elements, at least, of leading to this creep and this complexity would be perhaps eliminated.

It would still leave the question to what extent Congress wanted

to provide subsidies through credits, for example, for energy or

something like that, but at least it would separate out the measurement issue from the subsidy issue, which I think is one of the

things that leads to a lot of lack of clarity in today’s system, because you do not even know, for example, what exactly you are

subsidizing.

So that is another thought that I would throw out to you that

would be very far-reaching, I understand, and probably is not going

to get any further than 5 minutes of discussion in this hearing, but

at least it is a thought.

Dr. NEUBIG. Mr. Rossotti has raised something that I found very

helpful in terms of the Advisory Panel report. Also, it is something

that the State and local governments are very concerned about in

terms of maintaining their corporate income tax systems.

I think you can really separate out the income tax base from various incentives. One of the things that the Advisory Panel report

did was to propose, in most cases where there was going to be a

tax incentive, that it be done in the form of a credit. It should also

be a refundable credit. So, measure the income tax base comprehensively, and then apply, hopefully, a low rate. Then to the extent that you want to provide incentives to meet the cost-benefit

test, do it through refundable credits.

Mr. ROSSOTTI. If I could just interrupt. I think one of the reasons

for doing that—and by the way, I would still be against all the

credits. But if you were at least to do it that way, you would go

a step towards two things.

One is avoiding having to make complex the measurement of income, but also towards David Walker’s point that you would know

what the cost was because you would know exactly what that credit was, and it would be at least measurable and knowable. Then

you could try to analyze that against the cost-benefit side.

Personally, I am a little skeptical you would get too far in that

measurement, but at least that would be a step forward over where

we are now.

General WALKER. If I could interject really quickly, Senator. You

can go back to something you used to do and you do not do any

more, and that is, go back to pay-go on both sides of the ledger,

namely, both the tax and spending sides of the ledger. So if somebody comes in and says, gee, we want this new tax preference, you

have to pay for it.

38

Second, in addition to that, be able to calculate the discounted

present-value dollar cost of major tax and spending proposals, in

addition to a 10-year pay-go rule. That will put some discipline on

really quickly. You have already done one of those before.

Senator WYDEN. I am very attracted to that idea as well. Gentlemen, I have had a lot of time. Maybe you could answer, quickly.

My Chairman is back.

Mr. BERNARD. Senator, you asked earlier, how low would the rate

have to go before the lobbyists come back in. I do not know exactly

what that is, but we will certainly get back to you on that. Personally, I like Dr. Neubig’s idea of about a 10-percent rate reduction.

It would be perfect in my mind because that would bring you down

among the lower corporate rates in the world and there would be

much less reason for the business community to be coming in, looking for special incentives for targeted activities and industries.

Mr. JOHANNESEN. Quickly, maybe a little bit on the other side of

the ledger or the thought process here. But if it is very difficult to

raise that rate that you want, I think it is hard to spend money—

I know we have done it—that we do not have. But rather than trying to stop the incentives as much, maybe take a shot at trying to

make it very difficult to change the tax rate, accomplish it from the

other side and make that.

Then I think you are going to need some flexibility in this system. Try to avoid the special interest preferences. But this is a

complex country and you are going to need some flexibility, because

there may be a time that the tax policy is important to try to make

a statement or make a change from what you have going on. I

would maybe lock up the rate.

Senator WYDEN. Mr. Chairman, you have been very gracious in

giving me all this time. I think this has been an extremely good

panel. Under your leadership, both from the standpoint of what we

heard earlier in August with Senators Breaux and Mack, I still

have the conclusion that folks, working in good faith on a bipartisan basis under the Chairman’s leadership, with Senator Baucus,

we could duplicate what was done in 1986. Of course there would

be changes. It is, as Mr. Johannesen said, a very dynamic economy.

We have structural changes today that we did not face in 1986.

But the basic proposition, which is what I am trying to address

in the Fair Flat Tax Act—and I am not wedded to the numbers and

the rates—is to drive down the rates, particularly the marginal

rates, do it by getting rid of clutter, and having good people like

our Chairman and Senator Baucus lead the effort the way Ronald

Reagan and Bill Bradley did, with the executive branch and the

Congress working together.

Mr. Chairman, I look forward to our next hearing as well, and

would just thank you very much for being willing to prosecute this

case when you have a lot of other stuff on your plate.

The CHAIRMAN. I have just a couple of more questions, and then

I think probably nobody else is coming and the hearing will be

over.

I wanted to go to Mr. Johannesen. He testified about how a large

part of American business is conducted through entities that are

taxed at the individual level. We have 2 million C corporations, 3.3

39

million S corporations, 2.4 million partnerships, 19 or more million

non-farm sole proprietorships.

People select, for various reasons, which ones they are going to

use. So Mr. Johannesen, you highlighted a lot of tax burden that

business entities have to deal with as they grow and need to

change the business forms that have originally been chosen.

In order to simplify the tax code, do you think that there are too

many choices? Do you think that all the tax benefits should be

blended so that the burdens you have pointed out would not be so

obvious between business types?

Mr. JOHANNESEN. Simplicity would be good there. If you and I

could go off in a corner and create a new country and start out

with all new business structures, that might be a panacea. Although I really like this country, so I think I will just plan on staying here.

I think the number of entities is fine, the alternatives. If we were

to harmonize these rules so that, for instance, when we talked

about limited liability companies and S corporations earlier and

some of the differences there, I think with not much effect on the

revenue for the government—and I know that would be studied—

we could bring these rules into much more conformity on the flowthrough side, and businesses would really appreciate that.

It would make their daily life much easier to raise capital, to go

to the market, to get bank financing, all the types of things they

need to do. I think it would be difficult to reduce the number of

entities because of where we are, Senator Grassley, but I think we

can align more of the rules with these significant entities and that

would help a lot.

The CHAIRMAN. Yes.

Dr. Carroll, one of the issues that has been raised is who actually

pays these taxes that business has. You spoke about this. The

President’s Reform Panel noted the burden of corporate taxes is

likely to be shifted to workers and consumers.

CBO staff concluded in a preliminary report, so this may be

modified, that domestic labor bears about 70 percent of the burden.

Shareholders would bear about 30 percent.

As we think about business tax reform, especially corporate tax

reform, to make our Nation competitive in the global economy, it

is important that we understand better who actually shoulders this

burden.

So, Dr. Carroll, how do you view who bears the burden of corporate income tax?

Dr. CARROLL. Well, I think it is a very difficult issue. The economics profession, generally, does not have a settled view on the

issue. It is, nevertheless, very important to recognize, in considering business tax reform or tax reform more generally, that businesses do not ultimately pay taxes, people do.

When one thinks about the objectives of having a fair tax system

and having a system that promotes growth, this is a very important point, to recognize that people ultimately pay corporate income

taxes in their role as investors, in their role as workers, or in their

role as consumers.

Although I said that there is no established or settled view in the

economics literature, I think there has been an evolution over time.

40

If you go back to the early 1960s, when that paper was written in

1962, there was a consensus view that emerged, that owners of

capital bear the burden of the corporate income tax.

I think since then a number of things have happened, particularly in the 1970s and 1980s. In the numerical models that were

developed, which focused on the inter-temporal dimensions of saving and investment, the conclusion was that at least a portion of

the tax is borne by labor.

Theoretical papers were written in the 1980s that indicated that

a substantial portion of the corporate income tax is borne by labor.

You mentioned the more recent work at CBO by a staff economist

who formerly was at Treasury. The CBO report is kind of interesting, although I have not gone through it in detail.

But just 10 years ago, just as an illustration of the evolution and

thinking in this area, CBO released a report entitled, ‘‘The Incidence of the Corporate Income Tax,’’ where they concluded that the

corporate income tax fell on owners of capital. Now there is this

more recent work emerging from that organization, which is reaching a very different conclusion.

So over time, I think more and more economists, more and more

researchers who have looked at this issue very seriously are concluding that perhaps a more significant portion of the tax is borne

by labor than previously thought.

The staff at Treasury are also focused on this issue. We are engaged in a study of the incidence of the corporate income tax. It

is very important to tax reform. It is very important to reconcile

these competing objectives of fairness and pro-growth policies.

The CHAIRMAN. Yes.

I have two questions I am going to submit for answer in writing,

and maybe other members will as well, so we would appreciate

your cooperation on that.

[The questions appear in the appendix.]

The CHAIRMAN. I have a closing statement that I am just going

to put in the record.

[The prepared statement of Senator Grassley appears in the appendix.]

The CHAIRMAN. I thank you all very much for your cooperation.

[Whereupon, at 12:13 p.m., the hearing was concluded.]

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