In early 2005, the President appointed a tax reform advisory panel to formulate tax reform proposals. The report of the President's Advisory Panel on Tax Reform, issued in November 2005, recommended two reform plans to consider: 1) a revised income tax, referred to as the simplified income tax (SIT); and 2) a consumption tax coupled with a tax on financial income, referred to as the growth and investment tax (GIT). The income tax proposal, or SIT, is an income tax reform proposal that broadens the base and lowers the rates. The consumption tax, or GIT, is imposed as a direct tax which includes a cash flow tax on businesses and a progressive tax on individual wage income. A consumption tax of this type is often referred to by the generic term "flat tax" when rates are flat, and as an "x-tax" when the tax on wages is progressive. The GIT is not a pure consumption tax plan because it also includes a 15% tax on financial income (interest, dividends, and capital gains); rather it is a consumption tax, with a wage credit and an add-on tax on passive capital income at the individual level. Few individuals are likely, however, to pay much of that capital income tax because of the generous opportunities for tax-favored savings accounts. The advisory panel's report discussed and found some merit in considering partial replacement of the income tax with a value added tax (VAT), but did not propose such a tax. Finally, the report discussed but rejected a retail sales tax as a replacement for the income tax, and also rejected full replacement of the income tax with a VAT. Note, however, that there are several congressional proposals that include value added taxes and retail sales taxes, as well as income tax and flat tax proposals. Currently, the reform proposals are being considered further by the Treasury Department, which has recently released a dynamic analysis that discussed the two tax reform proposals as well as a third proposal, a progressive consumption tax (PCT) that modifies the GIT by eliminating the 15% financial income tax, and raising the top rate to 35%. This report describes the two formal proposals and analyzes them based on revenue neutrality, simplicity and administrative feasibility, equity (distributional effects), and a variety of economic effects. The section on economic effects considers the effects on the allocation of capital, overall effects on growth, potential consequences of the international tax rules, and effects of other tax incentives, including health care, charitable contributions, and spending by state and local governments. Some of these sections also include brief mention of the PCT, the VAT, and the retail sales tax. The report concludes with a discussion of transition issues. The tax reform plans have not been presented in legislative language, and therefore details of the plans are not always clear. Many tax issues, such as the treatment of casualty losses or alimony, or capital gains on owner-occupied housing, are not directly addressed, but would presumably be addressed once specific legislative changes are contemplated. However, the major important features are clear. The proposals generally have similar provisions that relate largely to the current individual income tax: Convert personal exemptions and standard deductions to credits. Replace the current rate structure (10%, 15%, 25%, 28%, 33%, and 35%) with four rates (15%, 25%, 30%, and 33%) in the SIT and three rates (15%, 25%, and 30%) in the GIT. Repeal the alternative minimum tax (AMT). Increase the maximum earned income credit (EIC). Eliminate itemized deductions. Allow a 15% mortgage interest credit for all taxpayers with the mortgage amount capped at the average price of housing in the region. Allow a deduction for charitable contributions in excess of 1% of income for all taxpayers. ( Note: deductions for state and local taxes would be eliminated). Allow a deduction for the purchase of health insurance to taxpayers not covered by an employer plan, and cap employers' deductions for health insurance. Simplify the exclusion for social security benefits and index it. Eliminate the tuition tax credit and other education preferences. Significantly expand existing preferred savings accounts, such as individual retirement accounts, by allowing two savings accounts, each with a limit of $10,000. No income restrictions would apply. The "Save for Retirement" account would replace existing individual retirement accounts with a current limit of $5,000. The "Save for Family" account would replace education and health savings accounts; funds could be used for education, health, and first time home purchase. Simplify employer savings plans. All individual savings plans would be converted to Roth-type plans (not deductible up front) and, in the case of the GIT, 401(k) and similar plans would be converted to Roth-type plans as well. Simplify employer savings accounts, and encourage and remove barriers to automatic enrollment and growth of contributions. Several provisions listed above would also have consequences for the taxation of investments in assets. For owner-occupied housing, the changes in mortgage interest and property taxes would affect the return on that investment. Tax burdens on capital income would also be affected by the preferred savings accounts. The simplified income tax plan would make major revisions in the current treatment of capital income in addition to those affecting savings in preferred accounts and investment in owner-occupied housing. As in the case of the individual structural provisions, the treatment of some items is not entirely clear. For example, although the research and experimentation credit would presumably be repealed, the expensing of intangible investment in R&D would presumably continue. The major changes are as follows: Eliminate taxes on dividends and reduce taxes on capital gains on corporate stock to a more or less negligible level. Allow a significant amount of expensing of investment in equipment as well as cash accounting for small businesses, and cash accounting for medium sized businesses. Small businesses would be required to have a separate business bank account. Repeal the corporate alterative minimum tax (AMT). Provide a new, simplified depreciation system. Eliminate most existing preferences. Eliminate the taxation of income from active business abroad, but tax earnings from intangibles currently. The GIT provides a cash flow tax at the business level so that the treatment of investments that are currently expensed, such as intangible expenditures on research and development, would continue. All investments and purchases are expensed (deducted when paid); old depreciation deductions phased out. Interest would not be deductible by business and interest income would not be taxable; deductions and payment of taxes on interest on existing debt would be phased out. Taxes paid would be rebated at the border (similar to the treatment of a value added tax). Financial capital income (dividends, capital gains, and interest) would be taxed at 15%. The progressive consumption tax (PCT) plan studied by Treasury would eliminate the tax on financial capital (and obviate the need for savings accounts), and would raise the top rate to 35%. The VAT would be similar to the PCT but would not allow a deduction at the firm level for wages and would not tax wages to individuals, and therefore would eliminate all of the features of the individual tax including the mortgage credit and the deduction for charitable contributions for that part of the tax. The VAT was discussed, however, as a partial replacement for the income tax. One of the objectives of the proposal was revenue neutrality. How revenue neutrality is measured depends on the baseline used, and the panel chose to use the Administration baseline, which included the permanent extension of the 2001-2003 tax cuts. This baseline differs from the baseline used by the Congressional Budget Office (CBO), which simply relies on the current tax law, and thus assumes that temporary provisions, including the 2001-2003 tax cuts, will expire. Thus, revenues raised under the administration baseline are smaller than those raised under the CBO baseline. As a result, the revenues raised by the tax reform proposal are associated with a substantial deficit—and one even more substantial given that there is a currently a surplus in the Social Security account that will eventually disappear and become a deficit. Over the period 2007-2016, in addition to the projected deficit of $0.8 trillion, the cost of making temporary tax provisions (except the AMT) permanent, including debt service, is about $2.3 trillion. And these projections do not include the possibility that discretionary spending will rise to keep pace with national income, which would increase the deficit by $1.6 trillion. Because the panel used the Administration baseline, any comparisons made in the analysis are with current law incorporating the 2001-2003 tax reductions. Nevertheless, some additional source of revenue must eventually be identified, which means that tax rates might need to be increased or tax preferences reduced, and how that revenue is made up would affect the analysis. Note also that there are some smaller provisions that would be difficult to dispense with, as discussed below, and if they were restored, an additional revenue shortfall would occur. There is an additional reason that the proposals may not be truly revenue neutral even within the context of the baseline used. The adoption of Roth-type savings accounts reduces current losses from deductions in traditional accounts, but loses revenue in the future. Such a loss could be significant. For example, some rough estimates suggest that a similar proposal by the Administration that gained a small amount of revenue in the budget horizon could eventually cost around $50 billion at current income levels, an amount equal to about 4% of current income tax revenues. Both proposals contain many elements that would simplify tax compliance. The elimination of itemized deductions would simplify tax filing. The proposal would, however, add complexity to current non-itemizing returns, which account for 70% of all returns, by allowing the charitable deduction, health insurance deduction, and mortgage credit. Some non-itemizers do not give in amounts that exceed the threshold for charitable deductions (1% of income), and either rent their homes (about a third of the population rents) or have paid off their mortgages.