Here’s what it would look like.
This week, Donald Trump decided to take ownership of the GOP tax reform effort by laying out a few broad guidelines. The guidelines are so broad, in fact, that many have rightly pointed out that it’s hard to make heads or tails of them. The deficit hawks at the Committee for a Responsible Federal Budget estimate that Trump’s framework could lose anywhere from $3 to $7 trillion in revenue over the next 10 years, which is a pretty big range. I’m not crazy about the tack Trump is taking. Among other things, his framework would lower the top marginal tax rate from 39.6 percent to 35 percent (unpopular and unlikely to do much good), double the standard deduction (expensive), lower the business tax rate to 15 percent for corporations and pass-through businesses (wildly expensive and an invitation to tax evasion on a grand scale), roll back most targeted tax breaks (not a bad idea, but a heavy political lift), and move the U.S. to a territorial tax system (something that should only be done very carefully). If it were up to me, we’d go in a very different direction. But that doesn’t mean that Trump can’t make a success of tax reform. With a few tweaks, he could use this effort to reestablish his populist-nationalist bona fides and give Republicans a much-needed win.
For years, House Speaker Paul Ryan and his allies have worked painstakingly to craft a tax reform package that would pass muster as revenue-neutral, so that it could make it through Congress’s budget reconciliation process. Since the election, the House GOP leadership has been trying to unite Republicans around the idea of moving to a border-adjusted tax, mostly because shifting from our current “origin-based” tax system (we tax things where they’re produced) to a “destination-based” one (we tax things where they’re consumed) is expected to raise more than $1 trillion in new revenue, since we Americans consume more than we actually produce. Would this border-adjusted tax (BAT) actually have raised this much new revenue? No one really knows. All that matters for purposes of crafting legislation is that the CBO might determine that it would, which would give Republicans enough breathing room to slash various other taxes without ballooning the deficit.
What Ryan failed to appreciate is that the BAT proved extremely unpopular among congressional Republicans, not least because many fear that it would lead to higher prices on imports, which would soak consumers. Trump may well have recognized that the BAT was going nowhere. So far, however, he hasn’t offered much of an alternative. Without the revenue from the BAT, Republicans can’t use reconciliation to pass permanent tax-reform legislation. Either they’ll have to settle for a temporary tax cut, like the George W. Bush administration back in 2001, or they’ll have to win enough Senate Democrats to overcome a filibuster, which is not very likely.
If the president keeps pushing deep cuts in business taxes that send deficits soaring, Democrats will have a field day. The best move for Trump would be to turn the need to raise revenue to his advantage. One of his favorite slogans—“Buy American, Hire American”—can serve as a good starting point.
Right now, U.S. multinational corporations routinely keep their foreign earnings locked up in foreign subsidiaries instead of bringing their earnings back home. The reason is simple. At 35 percent, the statutory U.S. corporate income tax rate is among the highest in the world. By keeping their money in overseas tax havens, U.S. multinationals can defer paying U.S. taxes on their foreign earnings indefinitely, so long as they never use their foreign profits to invest in the U.S. In effect, we’ve created a huge incentive for U.S. multinationals to shift their operations abroad, and to starve their domestic operations of much-needed investment. One solution would be to stop letting U.S. multinationals defer paying taxes on their foreign earnings, though this would give their competitors incorporated in low-tax jurisdictions a huge leg up, and it might induce even more U.S. multinationals to pursue inversions, in which a company moves its headquarters from a high-tax country to a low-tax one. If we were to move to a territorial tax system, as Trump proposes, U.S. multinationals would no longer have to pay U.S. taxes on money earned abroad, and they’d be free to plow the profits back into their U.S. operations. The problem is that under a territorial system, there might be an even stronger incentive for businesses to move all of their taxable operations out of the U.S. and into tax havens. During his presidential campaign, Trump railed against inversions, and he pledged that he would do everything in his power to fight them.
Trump’s best bet would be to adopt an idea that’s won champions on both sides of the aisle, and that was recently touted by Jason Furman, who until recently served as chairman of President Obama’s Council of Economic Advisers. The basic idea is that U.S. multinationals would no longer be allowed to defer taxes on their foreign earnings, but their foreign earnings would be subject to (for example) a 17 percent tax rate, as proposed by Robert Pozen. Companies would get a credit for the taxes they pay overseas. So if you’ve already paid 17 percent or more in corporate taxes to a foreign government, you could bring the money back to the U.S. tax-free. If you’ve paid less, you’d have to pay the difference to the U.S. Treasury. U.S. multinationals that are doing business abroad for reasons other than dodging taxes would welcome the change. Those that are shifting their operations to tax havens to fleece U.S. taxpayers would find themselves in a bind. Moreover, the revenue from this new minimum tax on foreign earnings could help finance a cut in the domestic corporate tax rate. Coupled with a one-time tax on foreign earnings held abroad, Pozen has estimated that this new global tax would raise enough money to cut the U.S. corporate tax rate to, say, 30 percent. Furman goes further, suggesting that between aggressively closing loopholes and the new minimum tax, we could cut the corporate tax rate to 28 percent and raise just as much revenue as we do today.
Why would Trump find such an approach attractive? Wouldn’t he much prefer a deeper, more dramatic cut to 15 percent? Sure. But cutting the corporate tax rate to 28 percent is much more doable, and by imposing a new minimum tax, he could honestly say that he’s socking it to globalist CEOs who screw over American workers by exporting jobs and profits to the various shady tax havens dotting the planet. Small though this might seem, a minimum tax would give Trump some of the populist credibility that’s been sorely lacking in his first few months in office.
Granted, corporate taxes are a very abstract subject. Reforming them might encourage businesses to hire more U.S. workers and to boost wages, but the connection isn’t all that direct. To further bolster the case for his tax reform agenda, Trump might want to draw a more direct connection by literally giving companies a tax credit for hiring U.S. citizens, as Henry Olsen proposes in National Review. Better still, Olsen’s citizen credit would send a crystal-clear message to employers: If you “hire American,” we will help make it worth your while. Many will no doubt object to creating a tax credit that would apply to U.S. citizens but not to immigrants. My own preference would be to extend the citizen credit to include lawful permanent residents. Such a credit would give low-wage employers who knowingly hire unauthorized immigrants good reason to care about the legal status of their employees. But the fact that such a provision might prove controversial is if anything a selling point. Would Trump rather have an argument over whether it’s fair to give citizens and lawful permanent residents a small advantage in the labor market or one over whether it’s a good idea to give rich people huge tax breaks? Come on.
Finally, and most unrealistically, I realize, I want to reiterate that if Trump is indeed going to curb tax deductions for high-income households (which he should), he should then plow the money into making life easier for low- and middle-income families with children. Ivanka Trump seems to have convinced the president that he ought to do something about high and rising child-care costs, and that’s all well and good. There’s a real danger, however, that a child-care package will yield much bigger benefits for affluent parents than poor ones. It’d be far better to greatly expand the child credit, as a number of scholars at the Tax Policy Center have recently proposed, than to narrowly target a new benefit at families that are already well-off. By abolishing the state and local tax deduction, something the Trump administration is keen to do, you could raise more than enough revenue to more than double the child credit and greatly expand the earned-income tax credit, which is a lifeline for working poor families. Do that and you will make it very hard for red-state Democrats to oppose you. More important, if Trump were to deliver such a meaningful benefit to working parents, he’d go a long way toward guaranteeing his re-election. So of course I assume he’s not going to do it.