In 2010, tax planning was particularly difficult because many provisions expired that year. These included the estate tax repeal in 2010, various tax rate structures, and various popular deductions and credits. Many taxpayers found it difficult to conduct proper year-end planning without knowing the rules for the following year. Many of those questions were eventually answered, but not until December 17, 2010 – just two weeks before year end. As this period coincided with the holiday season, few business days remained before 2011 to take any appropriate actions.
What was the result?
- Our elected leaders “kicked the can” down the road until 2012 for most of these provisions. No problems were solved – just put off for another day. And the problem was put off to a Presidential election year when the climate for cooperative action seems the least likely.
- The two-year fix failed to answer many tax policy questions that businesses ask. I have heard it said many times that business and the stock market hate uncertainty most of all. Whether they like the tax rules or not, they at least want to know what the rules are. How else can you properly make decisions without knowing the environment that impacts this decision?
- Many of the compromises were criticized by those both on the right and the left, saying that too many provisions were either given away prematurely or were extended without a careful consideration of whether they were even a good idea at all.
For example, consider the estate and gift tax story. Through 2009, the exemption from taxable estates or gifts had worked its way up to $3.5 million. Historically speaking, this was a rather generous deal. The problem with this plan was that the 2001 tax act brought a full repeal of the estate tax in 2010, with a return to a $1 million exemption in 2011. Think about that – $3.5 million estate exemption in 2009, full exemption in 2010, $1 million in 2011 – what sort of policy does this represent? The answer, of course, is no policy at all, but a ticking time bomb demanding repair. This problem, perhaps more than any other, forced lawmakers to enact the late 2010 tax changes.
While the $3.5 million exemption in 2009 was quite generous, it was replaced with a $5 million exemption (good news for taxpayers) for 2011 and 2012 only (bad news for taxpayers). Sound tax policy falls victim to expediency, and we are again in a short-term window of action. The result has been a rush to make significant estate planning transfers before 2012 expires. Estate planning attorneys and valuation professional report a huge flood of urgent work.
As we approach the mid-point of 2012, we find ourselves at the same railroad crossing, with the same train whistle blowing. Do we remember this intersection? The estate tax fix of 2010 is back again for another fix, the so-called “Bush rates” of 2001 are about to expire, and many popular business deductions rules are in jeopardy. While we watch the six-month slugfest of Obama vs. Romney, there appears to be little appetite in Washington to reach across the aisle to negotiate and formulate sound tax policy. Prognosticators generally agree that we should, once again, expect a last-minute bill, thrown together without due care, and without any eye to sound long-term tax policy.
What should we be doing? As a country –
- We need to come up with relatively permanent tax provisions, not ones that expire in ten years or less. Only then can taxpayers have full notice of the rules of the game, which allows them to formulate their multi-year actions thoughtfully, and know the effect of those decisions beyond the next biennial Congressional election. Also, it is probable that our habit of regularly renewed, short-term tax breaks have a very high fiscal cost, but we fool ourselves into overlooking the total bill by only pricing it a couple of years at a time.
- We need to enact necessary tax legislation well before it is to be effective. Only then have taxpayers been given proper notice of any rule changes. Also, we are less likely to end up with provisions that few in Congress have read and digested, and we would give commentators ample opportunity for analysis of the potential effects of such legislation. To the extent that any effects are unintended, we have time to take corrective action.
- We need to have the courage to follow the advice of our policy experts. Several times in recent years, groups were given directives to study the entire framework of our tax system, with an eye to the national deficit, economic recovery, the future of Medicare and Social Security, or some other fiscal policy issue. The most recent effort was the committee led by former Senator Alan Simpson and former White House Chief of Staff Erskine Bowles. As was the case with this fiscal commission, history would suggest that this is a futile effort, despite the best of intentions, since we have not shown the fortitude to stand up and follow the careful recommendations that result. Why? Because the needed medicine doesn’t always have a pleasant taste. In any discussion of a tax policy change, there are winners and losers. Here is where the losers organize and advertise, and in the end, nothing meaningful gets done.
Given the obstacles ahead that block our route to sound tax policy and our history of inaction in this area, it is hard to be optimistic. Even if we remove issues like the budget deficit from the discussion, taxpayers in this country still deserve the right to know the tax rules this year, next year, and five years from now. We need a more careful and thoughtful approach to national tax policy, and we need to make it a legislative priority. As well, effective tax practice is difficult in the current political climate. The ability of tax professionals to practice at a level their clients deserve is compromised by the inattentiveness to tax policy in the present and the future.