MauledAgain

When I discuss the portion of the presidential candidate's debate over taxes with people who are not tax experts, they tell me they are bewildered and have little faith in what is being said. When I discuss the matter with tax experts, I generally find the reaction to be one of concession to the inadequacy of a debate as a platform for educating citizens about proposed tax changes.

The difficulty, of course, is that one cannot discuss proposed tax changes with people unless those people understand what it is that would be changed. The average American citizen does not understand the nuances of federal taxation that both major presidential candidates seek to change. Information is generalized, assertions are misleading, rhetoric trumps technical analysis, and people remain confused. It is even more difficult to put policy considerations into the spotlight if they are resting on a foundation of half-truths, mis-information, and rhetorical jabs.

In trying to make their point, both candidates argued about the impact of their tax plans on a fellow named Joe Wurzelbacher. He's a plumber who had a conversation with Senator Obama in Ohio during a campaign stop, and who has now become known as Joe the Plumber. Joe told Obama that he was planning to buy the plumbing business for which he has worked, but was concerned that his income taxes would increase under Obama's tax plan. So Senator McCain brought up this encounter during the debate and asserted that Joe's taxes would increase under the plan.

Here's the problem. No one knows the facts. Is Joe the Plumber looking to buy a business that generates taxable income of $250,000? Gross profits of $250,000? Revenues of $250,000? One need only google "Joe the Plumber" and "taxes" or "Joe the Plumber" and "250000" to find all sorts of web sites raising questions, and making factual assertions about Joe Wurzelbacher's plumbing enterprise. Some commentators are trying to analyze the income of the business based on the assertion that there are only two plumbers working for it, using assumptions with respect to hourly charges, hours worked, expenses, and similar issues. So for all we know, this particular Joe will have a taxable income of less than $250,000. Or perhaps his taxable income exceeds $250,000. We don't know.

What we also don't know is the impact of other proposed tax changes on Joe's hypothetical income tax liability were he to acquire the plumbing business. What is the impact of McCain's proposed elimination of the employer deduction for health care coverage or for the inclusion of health care coverage in gross income, coupled with a credit?

When the two candidates then engaged on this question during the debate, the analysis became totally clouded. McCain claimed that Obama would put Joe in a higher tax bracket, which would cause him not to be able to employ people. McCain then added "which Joe was trying to realize the American dream." Did McCain intend to describe employing people as the American dream? Later he clarified the American dream as that of "owning their own business." McCain continued to claim that fifty percent of small business income taxes are paid by small businesses. Excuse me. Does that mean that the other fifty percent of small business taxes, whatever in the world that might mean, are paid by businesses that are not small
businesses? If they're paid by businesses that are not small businesses, why would they be small business taxes?

Because we don't know the taxable income generated by the business Joe the Plumber is considering buying, we don't know by how much, if any, its taxes would increase under the Obama plan or under the McCain plan. Would those taxes increase by an amount equal to what Joe would pay an employee? We have no idea, and I doubt McCain has any idea. What we heard were sound bites that would earn more credit in an English literature class than in a tax course.

Obama responded by trying to demonstrate what he called the major difference in tax policy between himself and McCain. He noted that the issue wasn't whether taxes should be cut, but for whom the tax cuts should be enacted. As he phrased it, hopefully most listeners could understand the basic issue in the tax discussion. Who should get a tax cut? Obama proceeded to describe McCain's plan as one that would provide tax breaks to large corporations, specifically noting that Exxon Mobil and other oil companies would get a $4 billion tax cut. Is that so? No one has shared the computations by which that estimate has been determined, though there is no question that McCain's proposal would reduce corporate taxes. Of course, it would reduce taxes for corporations other than oil companies, but I suppose it serves Obama's debate purposes to turn the spotlight onto corporations that strike negative chords in most Americans. Would noting that taxes would be reduced for Wal-Mart have the same effect? Several commentators note that McCain's proposals would reduce taxes for General Motors, supposedly a good idea because it would help preserve jobs with that company, but the problem is that General Motors isn't paying taxes because it's not making money.

Obama then repeated his claim that the 95 percent of Americans who "make" less than $250,000 a year would see a tax cut. What does "make" mean? Earn? As in salary? Have as taxable income? As in any type of income? Note that he did not mention whether those who make $250,000 or more would see no tax change, or a tax increase. He then noted that independent studies had concluded his plan provided three times as much tax relief to middle-class families as did McCain's plan. But what is middle class? Does someone earning or making or getting $250,000 of taxable income from a business get classified as middle class? Perhaps, if compared to the folks hauling in tens of millions of dollars a year in income. Perhaps not, if compared with people earning $50,000 or $100,000 a year. Taxes, of course, ought not be set at three rates, one for top, one for middle and one for bottom. They ought to be set on a sliding scale so that even if the tax on someone with $300,000 of taxable income is increased, it is increased at proportionately less than the increase for someone with $1,000,000, or $3,000,000, or $10,000,000 of taxable income. Of course, trying to explain this in a short debate, without access to visuals, is extremely difficult. Were I debating, I'd insist on access to Powerpoint.

Obama then made an interesting observation. He noted that tax breaks are more important to those who are trying to get to the point where they were making more money rather than lowering taxes for those who had already achieved that goal. To do this, he said, " requires us to make some important choices." He did not specify those choices, but to someone understanding tax policy issues, they are fairly clear. At what income levels should each tax bracket be imposed, and for what percentage. Obama also noted, again, a correction to assertions being made about small businesses and the impact of his proposals by explaining that "98 percent of small businesses make less than $250,000." From what I've seen over the years, that seems to be a reasonable conclusion.

McCain then claimed that Obama wants to "take Joe's money, give it to Sen. Obama, and let him spread the wealth around" but that he wants "Joe the plumber to spread that wealth around." It is most helpful that McCain made this point. If Joe's business generates $260,000 in income, what Obama plans to do increases Joe's taxes by a few hundred dollars. To use Obama's articulation of the question, is that a choice America wants to make? It depends on whether one thinks the taxes paid under current law by someone generating $260,000 in income are too much, too little, or just right. The complementary question is whether business would spread the wealth around. The presumption that the additional cash flow generated by tax breaks to a business end up as salaries and not as contributions to the purchase of luxury items manufactured abroad has not been proven, and events of the past several years puts this "trickle down" theory to a genuine practical test that questions its validity.

McCain asked, "Why would you want to increase anybody's taxes right now …Why would you want to do that, anyone, anyone in America, when we have such a tough time?" Obama answered that there are people who are not having a tough time and who "can afford to pay a little more in taxes." Of course, that's not the fundamental policy question. That question is whether they ought to pay more taxes, and the answer should explain why they should pay more taxes. McCain then tried to reject that response by asserting "We're talking about Joe the plumber" but his question was "why would you want to increase anybody's taxes right now." Someone paying close attention would see what's wrong with the reference to Joe the plumber in that context. Obama rejoined that the reason was to generate funding for tax cuts to give to Joe the plumber when he was still trying to get to the point where he could make $250,000.

Obama then shared a general tax policy observation that often gets overlooked: "So, look, nobody likes taxes. I would prefer that none of us had to pay taxes, including myself. But ultimately, we've got to pay for the core investments that make this economy strong and somebody's got to do it." McCain's response trivialized the policy question: "Nobody likes taxes. Let's not raise anybody's taxes. OK?" Here's the problem. If we don't raise taxes, we face either crippling deficits that threaten the nation's security and survival, or we cut spending, including Social Security, Medicare, and national defense, and perhaps even interest on the national debt, which also threatens the nation's security and survival.

What neither candidate said is that taxes need to be increased to undo the damage caused by excessive tax cuts that were not removed when the nation went to war. As has been said, "You can pay now or you can pay later, but you will pay." It's no longer now, it's now later, and we will pay. Now, which candidate, if either of them, understands that dilemma?

According to a recent report, one of the ideas being batted around Capitol Hill is a proposal to suspending capital gains taxes on securities purchased during the next two years. The rationale appears to be a belief that this move would encourage people to buy stocks, bonds, and similar investments. The proposal refocuses attention on the question of whether and to what extent the tax law ought to be used as a prod to influence behavior.

It is one thing to use the tax law for more than revenue collection purposes if the provision in question is designed to help people by reducing the economic impact of unavoidable losses. Thus, one can justify in a general sense, though criticizing the complexity of, the numerous provisions that assist the victims of natural disasters and war to put their economic and literal houses back in order. These tax breaks do encourage people to rebuild and restore life in disaster zones, something that people would be doing even without tax breaks, as demonstrated by a history of human reaction to disasters reaching back to times long before the existence of an income tax.

It is another thing to use the tax law for more than revenue collection purposes if the provision in question is designed to encourage people to do things that they otherwise would not do. Decisions to do something ought not be induced by tax breaks, even though there is now a long history of politicians using the tax laws for such purposes. If it takes a tax break to persuade someone to purchase stocks he or she would not otherwise purchase, what does that tell us about the person's opinion of the quality or investment worthiness of the stock?

But let's assume that the tax law should be so used. I'm not endorsing the idea, but simply exploring the paths that would then be open for the Congress. The current proposal is to eliminate capital gains taxes for stock purchased during the next two years. How is the prospect of zero capital gains going to encourage very many people to make these purchases? For some, they already face a zero capital gains rate because they intend to hold the investment until death, or may end up holding it until death even if not planning to do so. Is it not better to ask why people aren't making these investments, when in fact they were making them two, five, eight years ago when the capital gains tax was no lower than it is now? Some people aren't making these investments because they don't have the funds. These people aren't helped by elimination of taxes on capital gains. Others aren't making the investments because they are gripped by fear, or perhaps consider them to be too risky. What would help these folks isn't elimination of a tax they might not be paying in any event, but a tax break that switches their decision making in terms of risk or cash flow.

Perhaps a tax credit equal to a percentage of the investment would be enough to tip the scales and make the internal rate of return of the investment high enough to overcome the risk. One can take this even further. By allowing a tax credit, the government in effect is making a loan to the investor. Perhaps when the investment is sold or otherwise disposed of, the credit should be recaptured, perhaps on a reduced scale if the investment is held for some specified period of time. This would discourage panic disposition of the investment in the short run. In other words, the credit would be the equivalent of government investment, but rather than in toxic debt, in securities strong enough to generate purchase interest when the credit offsets the higher risk that has been triggered by the fear finding a home in the financial markets. Of course, it would also help if the government took steps to identify those who caused the problem, seize the illegally obtained profits, enacted provisions to prevent the same or similar frauds from being repeated, and enforced the laws already on the books. Perhaps a tax credit for those who provide information leading to the identification and arrest of people who made mortgage loans that ought not to have been made?

Surely there is a better way to deal with current financial problems than with the overused and discredited (sorry) "lower the tax rates" mantra. We've done the lower tax rate thing. We've seen where it took us. It's time for something new.

The Reuters headline says it all: "IMF Warns of Financial Meltdown." Or does it?

Of course, it does not say it all. It doesn't tell us how the problems can be solved. It doesn't identify the practices that need to be changed, the expectations that need to adjusted, and the cultural and social values that need to retuned. It doesn't use the words greed, corruption, secretiveness, collusion, ignorance or foolishness. The story accompanying the headline notes that while United States political and financial leaders ask for patience, the Internatlonal Monetary Fund warned that there isn't much time left to prevent a catastrophe. Some experts not that if the problems are not solved quickly, the world will enter a "dangerously deep recession." Hmm, if we tighten up that phrase, do we get Depression?

When a tool is misused, people tend to become very cautious when dealing with that tool. When a child uses a toy inappropriately, the responsible parent puts the toy out of reach, but also finds a way to instruct the child on the toy's proper use and why it is important to respect the purpose of the toy. Eventually the toy is returned to the child, who has a better appreciation of its purpose and treats it with the appropriate respect. Similarly, when the casino capitalists misuse debt and leverage, banks have become very cautious in making loans, but they, or someone, need to find a way to instruct the greed merchants on the proper use of debt and leverage and why it is important to respect the power of those tools to do generate not only financial benefits but also economic doom. And someone needs to find a way to then restore the use of debt and leverage in national and international business and consumer transactions.

For example, someone needs to step up and make it clear that a free market isn't a license to shift the consequences of bad decisions onto the unwitting and the unwilling. Recently I read a comment, and unfortunately I cannot find it, that equated greed with the seeking of profits. It's one thing to seek income and assets in order to meet what one needs to survive, to be comfortable, and to support one's dependents. It's a totally different thing to seek income and assets orders of magnitude beyone what is needed for survival and comfort. In today's economy, no one needs to own billions of dollars of assets or to earn tens of millions of dollars per year. Seeking these sorts of profits and accumulations of wealth is a matter of addiction, of thirst for power, or both. A person can eat only so much, can wear only so much, can drive only one vehicle at a time, and has only one body in need of health care. So what does one do with the excess income and wealth? One buys votes. One controls society through off-shore entities. One tries to arrange for one's children and grandchildren to live lavishly without needing to work. Are these behaviors good for society? I propose that the answer is no, because the efforts made to attain these options have imposed a huge price on society, and we're only beginning to see the extent of the damage that has been done. I can imagine there are those who would point the finger at the homeowners who applied for mortgages they could not afford, and the members of the so-called middle class who tried to "make a killing" in the markets for their retirement plans. No, I don't condone the foolish decisions of seeking debt beyond one's ability to repay or sinking 100 percent of one's assets into risky investments. But it also should be understood that many people in this position were so acting because the tax and economic policies of the past decade widened the chasm between the haves and have-nots, leaving the have-nots and those perceiving themselves to be at risk of becoming have-nots with what they saw as no choice but to gamble for their economic future.

Of course, some parents neglect to discipline their children. Some children fail to get the message. It doesn't always work out the way it ought to work out. Similarly, there's no guarantee that governments, and more specifically, their officials, will discipline those who abused the free market, and there's no guarantee that the casino capitalists will get the message. A similar message was sent in 1929, many people learned, their children and grandchildren viewed them as overly cautious, and the lessons were forgotten. History repeats itself. There's no guarantee that it will not.

The bailout, excuse me, rescue bill, known as the Emergency Economic Stabilization Act of 2008, managed to get Congressional approval because hundreds of pages of extraneous provisions, mostly in the tax area, were attached to the bill that failed to get passed a few days earlier. Objections to this process rest on two grounds. First, combining unrelated provisions makes it difficult, if not impossible, to evaluate the legislation on its own merits. This creates the sort of trap that is used to trip up members of Congress who vote against legislation because junk has been matched with something worthwhile, so that voting against the bill because the junk ought not be enacted brings claims that the legislator opposed the good idea, whereas voting for the bill despite the junk because of the value of the good idea brings claims that the legislator voted for the junk. Second, if a bill cannot stand on its own merits, as was the case with the bailout, rustling up votes by tacking on other provisions is nothing less than a purchase of the aye vote.

Many opponents and critics of the legislation describe the tacked-on provisions as pork. Defenders claim that the additional legislation were simple "extenders," that is, provisions that extended tax breaks that had expired as of the close of 2007 or would expire at the close of 2008. Is this so? Several days ago I read, or should say skimmed much of and read some of, the Emergency Economic Stabilization Act of 2008, focusing on the depreciation deduction because I am splitting what is one Tax Management Portfolio into two. In the process of doing so, I must gather all the developments that have taken place since I updated the portfolio about a year ago. The list of things that require further revision grew much longer after I culled the bailout legislation for items affecting the depreciation deduction. So here they are, and I'll let you decide (a) if they are simply extenders, and (b) if they are pork.

1. Section 201 changes the definition and nomenclature for cellulosic biomass ethanol, for which an additional first-year depreciation deduction is available, to cellulosic biofuels, thus expanding the reach of that deduction.

2. Section 305 extends the termination date for the treatment of qualified leasehold improvements and qualified restaurant improvements as 15-year property.

3. Section 305 also expands the definition of qualified restaurant improvements to include new restaurant buildings.

4. Section 305 also adds qualified retail improvements to the 15-year property class, a recovery period shorter than that to which they otherwise would be assigned.

5. Section 306 adds qualified smart meters and qualified smart grid systems to the 10-year property class, a recovery period shorter than that to which they otherwise would be assigned.

6. Section 308 adds a new subsection 168(m), creating an additional first-year depreciation deduction equal to 50% of the cost of certain reuse and recycling property.

7. Section 315 extends the termination date for the assignment of Indian reservation property to recovery periods shorter than those to which they otherwise would be assigned.

8. Section 317 extends the termination date for assignment of motorsports entertainment complexes to the 7-year property class, a recovery period shorter than that to which they otherwise would be assigned.

9. Section 505 adds certain farming business machinery and equipment to the 5-year property class, a recovery period shorter than that to which it otherwise would be assigned.

10. Section 710 adds a new subsection 168(n), creating an additional first-year depreciation deduction for qualified disaster property.

11. Section 711 adds a new subsection 179(e) to provide increased first-year expensing for qualified disaster assistance property.

I count three simple extenders out of the eleven items. Though I may have missed something, I don't think I missed so many that the "27% extender" conclusion is way off the mark. Eventually I'll go through the legislation again to cull the energy-related provisions, as that is another project getting my attention. But from what I saw, there are even proportionately more changes and additions that are not extenders. Is it possible that some things were slipped in unbeknownst to most of the nation's citizens?

There's not much to like about the bailout. Before Congress enacted what I called A Financial Crisis Solution That Doesn't Solve the Problem, I explained, in both Where is the Money to be Found? and Funding the Bailout, that creativity was required in finding the resources, going so far as to make one suggestion, in Risk Premiums with a Greed Tax? Finding a solution, I noted in Greed, Stupidity, and Fraud: Lessons from Tax Law and Does It Matter Who or What is to Blame?, required understanding how the crisis arose. I explained, in Why Vote Aye for Bad Legislation?, how the legislative process once again failed the American people.

Advocates of the bailout, renamed rescue as though that changes its shape or smell, asserted that it ought to be given a chance, even though many of them admitted to ignorance with respect to the causes and solutions. Others argue as though they are omniscient, claiming that folks who take the position I have shared will be proven wrong.

What's been proven wrong is the notion that the bailout, excuse me, rescue, package would be of help. Since it was enacted on October 3, stock markets throughout the world have plunged. On Monday, the Dow Jones Industrial Average fell 370 points, and then on Tuesday it plummeted another 508 points. Most of that drop occurred after the Federal Reserve Bank took the unprecedented step of lending cash directly to corporations. Investors are sending a message, namely, they don't think the government can solve the problem taking the approach it has decided to follow.

It would not surprise me to hear the advocates argue that absent the bailout the situation would be worse. That reminds me of the story I heard as a child about the fellow who was asked why he was standing at a downtown intersection snapping his fingers. "It keeps the pink elephants away," He explained. When told there weren't any pink elephants, he triumphantly replied, "See? It works." So perhaps it would have been worse, but I doubt it. I think the markets view the most recent federal government actions, and those of other national governments, as ineffective. I think investors simply don't trust those who make policy, just as banks no longer trust most loan applicants, just as citizens don't trust Congress, just as voters don't trust politicians, and just as people don't trust the wizards of theory who used the world's population as guinea pigs in their monetary experimentation. We now have learned what happens when someone designs the "If all goes well, the financial elite win, and if it falls apart, everyone else loses" investment vehicle.

I previously spelled out what I think needs to be done. At this point, considering the ineffectiveness of the "solution" designed by the people who created the problem, perhaps it's time to try something else.

To say that what Congress did on Friday was disappointing would be an understatement. What Congress did was, and remains, downright dangerous. A huge sum of money has been thrown in the direction of institutions and people who are either malevolent or ignorant. Banks and other institutions find themselves holding assets that have been significantly devalued because, surprise, someone discovered they were packed with toxic mortgages. If these banks and other institutions purchased these investments without knowing what was in them, then they were grossly negligent in not having done due diligence. And if they did know, then their actions in acquiring this junk are totally malevolent.

Now that the giveaway is underway, the industry already has started to prepare America for the bad news, namely, that this raid on taxpayer dollars won't solve the problem. According to this report, despite the legislation having passed, lending won't ramp up overnight, it might not get underway for weeks, and it might take even longer for things to get better. In the meantime, hundreds of billions of dollars flow into the marketplace and nothing happens? The folks who testified at Congressional hearings that they had no clue may have been telling the truth, but those who engineered this so-called bailout surely knew what they were doing. When they discovered that American opposed the idea, they worked out a deal. They added $150 billion of unrelated tax provisions to the legislation, and in turn persuaded several dozen legislators to switch their votes. Consider this quote from House Republican leader John Boehner, "We've made this bill better." Better? It's the same legislation, with a variety of "vote getters"tacked on, as I described in Why Vote Aye for Bad Legislation?.

According to various reports, such as this story, banks are drowning in cash but are reluctant to lend money. Why? We're told that they are "paralyzed with fear." Fear of what? That they are incapable of distinguishing a credit-worthy loan applicant from someone not qualified to borrow? That they are incapable of figuring out which fancy, exotic, smoke-and-mirrors creative investment packaged by the wizards of Wall Street they should buy? Here's some advice to the banks. Try making loans to people, one at a time. Ignore the packaged deals and other theoretically cool but pragmatically stupid investments cranked out by a generation of investment bankers who either outsmarted themselves or, as is more likely, embarked on one of the if not the most, outrageous greed-inspired money grabs in history. In other words, these banks don't need money. They need that unique combination of intelligence and honesty that is no less lacking in the financial services market as it is in the political arena.

What should have been done? The problem that should have been attacked with money is what underlies the crisis, not the symptoms and not the losses incurred by investment bankers, banks, and other institutions complicit in the crisis or negligent in their investment decisions. The crisis exists because a very small percentage of homeowners, perhaps as few as 3 or 5 percent, cannot meet their mortgage payments. Imagine what would happen if $700 billion were used to pay interest and principal on the roughly 1,500,000 home loans that are bad. The loans generate payments, the strange investment vehicles in which they are packaged recover their value, bank balance sheets return to normal, and the crisis is handled.

Instead, consider what will now happen. The Treasury will seek to borrow $700 billion so it can buy these bad mortgages, as described in Where is the Money to be Found?. What is the effect of that borrowing? I'll quote myself:

Borrowing money increases interest rates, which benefits some investors and hurts borrowers. Borrowing money also makes the nation even more beholden to those in a position to lend the money, namely, foreign countries and foreign investors rolling in dollars accumulated when Americans purchased foreign oil, foreign goods, and foreign services. Having a nation that spends beyond its means borrow even more money to bail out bad debts arising from individuals who spent beyond their means is not unlike pouring gasoline on a fire.

Good money is thrown after bad, while the folks who profited from this debacle chuckle all the way to their off-shore bank, leaving behind some underlings to take the FBI heat.

So the national debt increases by $850 billion, soon to be followed by the impact of $500 billion annual budget deficits. On the heels of that escalating national debt comes the looming crises in Social Security and Medicare. According to the 2007 Financial Report of the United States Government (Dec. 2007), as of September 30, 2007,the future unfunded costs of Social Security, Medicare, and other obligations has reached $53 trillion. Yet there are politicians who continue to advocate cutting taxes, and whose votes were obtained when tax reductions were tacked onto the bailout bill. Hanging onto the mantra that we can tax cut ourselves out of the mess, they seem to ignore the reality that we tax cut ourselves into the mess. Had the wealthy faced the tax rates in effect before the 2001 reductions, had they not had the advantage of special low tax rates for capital gains and dividends, and had they not available the tax breaks tailored to their wants, they would not have had the funds with which to play what someone else called "casino capitalism." I've always wondered what one does with a $10 million or $50 million annual income. Perhaps you have, too. Now we know. It's house money, and it lets the wealthy take enormous risks that they shift onto the rest of us. As the Secretary of the Treasury admitted, this bailout legislation puts taxpayers at considerable risk. Risk of what? We'll soon be finding out. It isn't going to be pretty.

So after the House of Representatives votes down proposed legislation that would give the Secretary of the Treasury $700 billion to use however the Secretary wished to purchase toxic debt that no one else wants, the Senate takes its turn. Despite knowing that citizen opposition to the proposal is overwhelming, the Senate decided that the way to get the legislation enacted would be to tack on a variety of unrelated legislative proposals as a sop to those who would otherwise vote against the bailout giveaway. For once, the public gets to see this very common legislative technique in stark relief.

So what did the Senate do? First, it increased the $100,000 limit on FDIC insurance for bank accounts to $250,000. The theory is that this will restore public confidence in the financial markets. Will it? It won't take long for someone to compute how much money the FDIC would need to find if all banks fail. Considering that the limit had not been increased for quite some time, and is not indexed for inflation, this change might make sense, but the FDIC is not permitted to charge the financial institutions for this insurance. Instead, it must borrow from the Treasury. That's just what the nation needs, more borrowing.

Second, the Senate extended the temporary fix for the alternative minimum tax problem that catches middle class taxpayers within a net designed to trap the ultra wealthy who find ways to avoid taxes. The irony is that the fix merely helps the middle class taxpayers but does nothing to deal with the ultra wealthy who continue to avoid taxes despite the existence of the alternative minimum tax. One must wonder whether the continued failure of Congress to reform the tax law and the continued success of the wealthy in avoiding the tax encourages some of them to be just as bold in finding other ways to increase wealth at the expense of other taxpayers.

Third, the Senate extended a variety of tax provisions that had expired as of the end of 2007 or that were scheduled to expire at the end of 2008. There's no question that extending these provisions does nothing to solve the financial markets mess. What is guaranteed is that the extensions will increase the federal budget deficit, which in turn will put more pressure on the credit markets, an outcome contrary to one of the expressed justifications for the bailout bonanza.

Fourth, the Senate enacted a new group of tax breaks for renewable energy. Again, this does nothing to solve the financial crisis. For several decades, the Congress has been using the tax law to deal with energy, enacting a variety of incentives to wean the country from its foreign oil addiction, surely a contributing cause to the increase in government, business, and consumer debt, and yet the country uses more and more foreign oil. Perhaps using the tax law to deal indirectly with the problem makes far less sense than dealing directly with it? Together with the extensions, these tax breaks add $110 billion to the cost of the legislation.

Fifth, the Senate enacted a requirement that health insurers treat mental health issues in the same manner that they treat physical illnesses. About the only connection between this issue and the financial crisis is that the latter is likely to cause a significant increase in the number of people with anxiety, stress, and other pyschological problems.

It's distressing to note that the Senate did not add provisions to fund the bailout, to track down the funds moved offshore by the perpetrators of the schemes, to hold accountable the decision makers who permitted the markets to become a casino, to require public education that reduces the opportunities for manipulators to dupe individuals and investors, and to lead by example in an effort to eradicate the greed mentality that infects society. Instead, the Senate pounced at the opportunity to saddle the legislation with unrelated provisions in which particular Senators were interested.

What should trouble the nation is the manner in which a legislator who thinks a legislative proposal is a bad idea and who would not vote for it on that basis nonetheless will vote for it if something that the legislator wants or likes is appended to that legislation. If a legislator thinks that the bailout is a bad idea, then it is a bad idea and the legislator ought not vote for it. Changing the vote from negative to positive, that is, doing something that the legislator otherwise would not do, simply because the legislator is getting something in return is very troublesome. To vote for something that is against one's principles because one is receiving some sort of unrelated benefit suggests that votes are for sale. A proposal ought to sink or swim on its own merits. That's not to say that amendments germane to the issue ought to be precluded, but the legislative practice of packaging bills so that everybody gets something and no one votes no even though most, if not all, of the provisions ought not be enacted is something that should end immediately. To say that this is the way Congress has done business is nothing more than an invitation to consider whether the crisis presently engulfing the nation is a product of the way Congress has done business. The federal government is trillions of dollars in debt, the federal budget deficit is growing at astronomical rates, the nation and many of its citizens have become indebted to foreign nations and investors, unemployment is rising, insufficient resources are allocated to health care, infrastructure repair, and development of new energy sources, and the dollar remains weak. Business as usual put us in this situation, and business as usual must be pushed aside. It is time for a change in how laws are enacted and administered.

The current economic mess, which many doubt will go away simply because of a $700 billion government bailout of the financial services industry, has caused most people to focus on the question of how it ought to be fixed. Only a few people have considered what steps should be taken to prevent the problem, or some next-generation variant, from happening again. It has been suggested that there is no way to prevent the next problem because no one knows what that problem will be. There's some truth to that observation. So perhaps the question is whether there exists a way to insulate or cushion the economy from these sorts of episodes.

Quite a few people have brushed aside talk of ascertaining blame. I continue to challenge the nation's leaders to insist on responsibility. As I wrote more than a year ago, in Greed, Stupidity, Poor Judgment, and Taxes, " The solution to the problem is to shift the financial consequences of bad lending decisions onto the individuals who made those bad decisions." Assessing blame, we are told by the bailout advocates, is pointless. Nonetheless, the blame game has begun. There are those who point to section 121 of the Internal Revenue Code, as summarized nicely by Paul Caron in his TaxProf Blog poston the subject, replete with links to discussion throughout the blogosphere. Others claim that changes made to regulations under the Community Reinvestment Act by the Clinton Administration caused lenders to make loans to unqualified borrowers. And, as can be expected, the accusations and counter-accusations begin to fly. Almost all of the debate, though, appears to be less of an effort to identify the specific individuals and decisions that led to the crisis and more of an effort to tag one political party as the culprit and the other as the ignored prophet of doom. Perhaps the folks who dismiss the blame gaming do so because as it is practiced in postmodern America it generates these sorts of name-calling debates.

Yet it is important to cast blame, if that's the phrase people want to use for undertaking the identification of what went wrong. Though some people engage in this effort in order to justify attacking one political party or another, others do so because preventing recurrences In the future of the same or similar problems requires understanding what happened this time around. The irony of the current crisis is that too many people, including politicians, bankers, investors, and others, are admitting that they really don't know what happened, are unable to measure with any precision the scope of the problem, and are unsure what the ramifications are of moving forward or not moving forward with the proposed bailout. Even many of those who speak authoritatively probably have some deep inner doubts about the reliability of their public assertions.

It is not enough to put into place a variety of mechanical and human-regulated circuit breakers, filters, triggers, and reporting requirements. Though necessary, those techniques don't necessarily provide safeguards against the next scheme. The protections put in place as a consequence of the Great Depression did not prevent the dotcom bubble, the real estate housing bubble, or this toxic debt bubble, nor did they prevent the bursting of those bubbles. The creators of the next bubble is as likely to be undeterred by whatever legislation 2008 brings to the table as those recent bubbles were by the 1930s legislation.

Instead, what must be challenged is the culture that breeds the people and behavior that bring us these difficulties. One cause of the problem is the inability of people to understand the risks they undertake when they borrow money they are not qualified to borrow, that they are unable to repay, and that they accept because they are banking on an increase in housing prices under circumstances that suggest increases are far from certain. Something that definitely must be done is the education of the American nation with respect to finances, borrowing, budgeting, money, and economics. This isn't the first time I've pointed out this necessity. For example, in Preventing Foreclosure Through the Tax Law? Not This Time, I wrote:

What about a provision to fund high schools so they can teach their students some basic information about home buying, so that they are much less likely to be bamboozled by loan merchants with more concern about their up-front fees than the economic well-being of their customers?

And more than three years ago, in Economically Depressing?, I referred to "my expressed desire that K-12 education be revamped so that high school graduates enter society with the survival tools needed for life in the 21st century." According to the 2005 report of the National Council on Economic Education, the latest I could find, only seven states require personal financial education as a high school graduation requirement, one requires high schools to offer a course in the subject though it is not a required course, and one state requires that it be taught in middle school. There are 50 states in the union, plus the District of Columbia and some overseas possessions. Surely personal finance is no less important than other subjects being taught in middle school and high school.

Another cause of the problem is that postmodern Amercian culture is infected with greed and with the poor judgment and stupidity that accompany greed. As I pointed out in Greed, Stupidity, Poor Judgment, and Taxes:

The problem arises from a confluence of several underlying weaknesses in American culture. The first is the decision to live beyond one’s means. Fueled by advertising that makes people feel inadequate if they don’t own a home, live in a large home, drive a fancy car, wear the latest designer-brand fashions, and eat at the trendiest restaurant, people overspend and then end up in a financial dilemma. Greed? Maybe. Stupidity? Sometimes. Poor judgment? Definitely. The second is the proliferation of lenders, brokers, agents, and others who enable the decision to live beyond one’s means. It’s one thing to cut people a break so that they can afford a home, such as a small reduction in the required down payment or a slight reduction in the interest rate. It’s something else to eliminate the down payment requirement and to doctor the interest rate so that in two or three years the home buyer is trapped in a mortgage hell. Greed? Yes. Stupidity? Perhaps on the part of the borrower. Poor judgment? Yes, on the borrower’s part. The third is the perception that someone else, usually “the government,” will step in to insulate people and businesses from the folly of their bad decisions. The ever-growing inability or unwillingness of people to accept responsibility for the consequences of their actions increasingly erodes the core values on which this nation rests. Greed? Yes. Stupidity? Yes. Poor judgment? Yes.

But how does this mindset get reformed? So long as the message sent by advertisers, politicians, and the entertainment industry is "You can have it all and you can have it all now," then it's no surprise that people behave in ways that jeopardize not only the nation's financial health but its survival. One cannot expect advertisers to step up and advise people not to buy the products they hawk. The entertainment industry is in no position to send a contrary message, for its existence depends on that message. That leaves it to the politicians, ever anxious to avoid the delivery of bad news and ever reluctant to ask Americans to sacrifice. The "You can have it all and you can have it all now" perspective is what brought us tax cuts in a time of war. I made this point in Taxes and Sustaining a Civilized Society:

Whether or not one supports none, one, or all of the various military actions undertaken in connection with this war, it is inconceivable to me how one can disagree with the notion that if there is a war the war must be funded because wars cost money. . . . The failure to seek a tax increase, or at least to put the brakes on the tax cutting, probably reflected a policy of trying to make everyone happy even though the long-term cost is far higher than would be the cost of an immediate, and thus smaller, tax increase.

I expounded on this argument in A Memorial Day Essay on War and Taxation:

Politicians have chosen to fight without increasing revenue, imposing rationing, or deferring projects and activities. In their defense, they argue that none of these things are necessary, that a nation can have its guns without giving up its butter. I disagree, and I happen to think that politicians are reluctant to do what needs to be done because they are more concerned about maintaining their position in office than in making the tough decisions that war requires. So our national leaders have chosen to put the cost of the current war on our children and grandchildren. Those who decry the huge deficits, triggered in part by war and in part by the almost insane concept of decreasing tax revenues (mostly for the wealthy) during wartime, pretty much focus on the economic impact. They ask if, or suggest that, our grandchildren will be facing income tax rates of 80 percent in order to reduce an unmanageable deficit. I think it will be worse. I think our children and their children and grandchildren will become subservient to our nation's creditors. The sovereignty of the United States of America is far from guaranteed, and is at risk. Were these considerations discussed when those in power decided that war can be done on the cheap?

War cannot be done on the cheap. War is not free. War ought not be purchased on a credit card. War is a national commitment. Hiding the true cost of war in order to influence a nation's willingness to engage in war is wrong. Ultimately, the price to be paid will be dangerously high.

Perhaps the question is whether we are beginning to pay that price. With the rough going that the bailout proposal has encountered in the Congress, it appears that opponents of the plan are questioning the wisdom of borrowing more money in order to solve the problem of too much money having been borrowed.

A report from BNA indicates that Peter DeFazio, a member of the House of Representatives from Oregon, suggested that the Congress should impose stock transfer taxes as a source of funding the proposed bailout of the financial services industry, but the idea was dismissed. As crafted, the representative's suggestion is too narrow. The existing mess cannot be attributable solely to stock trading, and the stock market ought not be singled out for revenues to finance the bailout. However, as a proponent of shifting the cost of the bailout to those who participated in creating the mess, I would modify the suggestion so that a tax, or what I would prefer to call a user fee, is imposed on all financial services transactions.

Would such a user fee, or tax, affect innocent people? Yes and no. A person or institution that purchases a collateralized debt security might not be manipulating the market, lying to investors, hiding bad loans, or making bad loans, but that purchaser is in a certain way enabling the market that affords the schemers and careless managers an opportunity to do damage. The fee is not unlike insurance. Careful drivers pay insurance premiums.

Would such a user fee, or tax, inhibit the financial markets? To some extent, yes. Surely there would be transactions that don't take place because the user fee, or tax, tips the analysis away from engaging in the deal. If the deal is that shaky, then the user fee or tax would have served its purpose. Imagine how many of the toxic transactions that contributed to the current mess would not have taken place had there been such a user fee or tax.

This user fee or tax could be constructed so that as the risk of the transaction increased, the rate of the user fee increased. Insurance companies do this sort of rating all of the time. Dealings in safer transactions would be subject to lower impositions than transactions in exotic financial instruments designed by someone who has a business school degree, a theory, a cup of coffee, and a dream to get rich quick. The rate of the user fee or tax could also reflect the identity of the parties, the location of the underlying assets, and other factors that indicate the degree of risk.

The latest version of the proposed legislation contains authority for the Treasury to impose premiums to pay for insurance to guarantee bad loans and assets originating before March 14, 2008. The premiums would be paid by financial institutions participating in the insurance program. The premium would reflect the relative risk of the particular bad loan or asset. It seems as though the premiums would be used to offset further declines in value, but do nothing in terms of generating a source for the $700 billion being sunk into the financial services industry money pit.

Taking a different tack, House Republicans advocate the use of private funds to bail out the failing institutions. According to this CNN report, House Republicans also want to ease tax laws so that private investors put their funds into the markets. Considering how eviscerated the tax laws have become during the past eight years, how can they be eased any further other than to eliminate them? I suppose the answer is elimination of taxes on investors so that wage earners bear the burden of financing government. The idea that private investors, who at the moment appear to be sitting things out because putting money into these failing institutions seems unwise, would return because of a tax cut on their income and thus proceed to dump their assets into sinking ships, seems a bit overdone. One must wonder why doing more of the same would generate any different of a result than what has already been produced.

Some claim that the bailout will pay for itself and thus does not need to be funded. Aside from the question of who finances the bailout, there's absolutely nothing to suggest that the bailout will pay for itself. The premise for this claim is that eventually the government will be able to sell at a profit the toxic junk that it purchases. If this is likely, why aren't private investors pushing each other aside in an effort to buy this "can't miss" junk? The answer is that they don't want it. Advocates for the bailout reply that only the government has the resources to make the purchases on a grand scale. Excuse me, what resources? The government is deep in debt, a debt that will continue to grow even without the bailout. Because it's very unlikely that the government will print money or raise taxes, it will finance the bailout by borrowing money. That presents two questions. First, if the government can borrow that money, why can't private investors collectively borrow it? If the answer to that question is the tightening of the credit markets, how will the appearance of the U.S. as a borrower seeking more loan funds loosen those markets? Second, if lenders are willing to finance the government's foray into this mess, because they think it is a good deal, why would they not finance private investors doing the same?

Something is terribly amiss and makes no sense. I read, in The Bailout: What's at Stake? that the cause of the problem is falling housing prices. Yet housing prices are falling because there are fewer would-be buyers financially capable of paying the higher prices, in part because of the credit crunch. So the credit crunch is causing the problem that is causing the credit crunch? I doubt it. Housing prices are falling because they are returning to levels that reflect their true worth. Housing prices are falling because they were pushed up by the bids of buyers who lacked the financial ability to pay those prices but who were being funded, and encouraged to buy houses, by the folks who decided they could make money by making bad loans because they grabbed their fees and sold the bad debts by disguising them in bundles of good debt.

According to the previously mentioned CNN report, it also has been suggested that the limitation on the deduction of compensation paid to executives be reduced from $1,000,000 to $400,000 for the five highest paid executives of each employer that is part of the financial services industry. That's equivalent to doubling the number of people standing on a corner snapping their fingers in order to keep the pink elephants away. The $1,000,000 deduction limitation has accomplished nothing because it is riddled with exceptions. Changing the number isn't the answer. A related proposal with respect to golden parachute payments would fare no less terribly because the existing golden parachute payment provisions fail to accomplish the intended result. If the tax law is going to be used to discourage high incomes, the simple answer is to increase the rates so that incomes over $1,000,000 are subject to higher taxes, incomes over $10,000,000 subject to even higher taxes, and incomes over $100,000,000 subject to what many would consider to be confiscatory taxes.

According to The Bailout: What's at Stake?, the National Association of Home Builders has announced that it plans to ask Congress for yet another bailout of between $40 billion and $90 billion. The article also explains that the investment bankers who benefit from the bailout will be using the funds to cushion themselves against similar problems in Europe and Asia. The managing director of the Economic Cycle Research Institute predicts that banks will not use the bailout money to make loans because they will prefer to improve their balance sheets. My question is this: then what will they do with the money? Pay off their own debts? Invest in something other than loans? What exactly are the taxpayers funding? The answer isn't the purchase of toxic debt. The answer is whatever it is that the owners of that toxic debt do with the money they get from the government when they sell the junk to the government.

The President and others claim, as the President stated in this report, that ""There is no disagreement that something substantial should be done." Well, depending on what "substantial" means, there is room to disagree. Surely the architects of the mess should be held accountable. Fees collected by mortgage brokers lending money to unqualified buyers should be seized. The sellers of debt instruments who hid bad loans in the packages and made misrepresentations about the risk levels should be required to disgorge their profits. Nothing in the proposed legislation would accomplish this result. The FBI investigation into the fraudulent activities in the mortgage and other markets should continue. Those investigations were underway before Congress and the Administration turned their attention to the matter. But what happens if there is no bailout? We're told that the existing credit crunch will continue. Is that a bad thing? Might it mean we must live within our means until the nation's assets grow and catch up to its debts? Would the spiraling debt vortex shut down, thus reducing the chance that some foreign nation or syndicate will end up owning America's assets?

The people who made this mess and the people who permitted this mess to unfold are now telling us how to solve the problem, and they seem intent on making taxpayers, rather than the perpetrators, responsible for cleaning it up. How much faith should one put in the solutions proposed by those who created the problem? One either assumes they made the mess because they do not know what they are doing, which is reason to reject their proposals. Or one assumes they very well knew what they were doing, which is reason enough to reject their proposals. Put bluntly, I don't trust them. Do you?

In my last post, Where is the Money to Be Found, I examined one of the many issues raised by the proposed $700 billion bailout of the financial services sector. Throughout my analysis, I have looked at the situation as one of "greed, stupidity, and poor judgment." The continued gambling that took place throughout the past five or six years was fueled by greed, enabled by stupidity, and perfused with poor judgment, as I noted in Greed, Stupidity, Poor Judgment, and Taxes.

What I neglected to consider was another consequence of greed. And that is fraud. So I should not have been surprised to see this CNN headline on Wednesday: FBI Probing Bailout Firms. It turns out that the FBI is looking into the actions of Fannie Mae, Freddie Mac, Lehman Brothers and AIG to determine if their employees, particularly executives, engaged in fraudulent behavior. There are 26 companies being investigated, and 1,400 individuals, including lenders, brokers, and appraisers.

It's a bit of a guess, but I'm going to suggest what some of the issues might be. Were mortgages provided to borrowers on the basis of fraudulently over-valued homes? Were subprime and other high risk mortgages packaged into securitizations without disclosure? Is it true that information was withheld from people and firms that invested in these mortgages?

According to the CNN story, the FBI already has arrested more than 400 individuals who are charged with generating more than $1 billion in losses on account of mortgage fraud. The same story reports that the Mortgage Asset Research Institute has done a study showing that for the first quarter of 2008, the number of fraudulent mortgage loans was 42 percent higher than was the case in the first quarter of 2007.

The tax law provides not only for penalties on account of stupidity and carelessness, but also for fraud. Stupidity, carelessness, and other lapses in skill get swept together in what the tax law calls negligence. The negligence penalty is designed to encourage people to be more careful. The fraud penalties are designed not only as a deterrent, but also to recoup the burden that is placed on society by people who are not necessarily stupid, though very possibly infused with greed and poor judgment, and who let that greed lead them into fraudulent behavior. If the tax law can be designed with penalties against negligence and fraud, why can't mortgage lending laws be similarly designed? The answer is that they are. The more important question is whether there is any reason not to enforce them. Perhaps the lack of sufficient resources that plagues the IRS also hampers enforcement designed to keep the mortgage market a free market, that is, a market free of fraud, manipulation, and other nefarious practices.

And if the mortgage fraud laws are enforced, and the government's allegations are proven, then the defendants ought to be required to disgorge profits. If they stashed the cash overseas, there needs to be a way to retrieve it. Though advocates of the bailout toss that aside as an impossibility and as something that would cost to much to achieve, the people of this country are owed the effort. There are times when the cost of prosecuting a tax fraud case exceeds the revenue involved in the matter, but the lesson that is taught has a value that surpasses mere dollars. There's a reason that every April various U.S. Attorneys announce tax fraud indictments. And though deterrence is a factor, an even worthier reason is to let people know that those entrusted with protecting Americans, whether from outside threats or at-home theft, are doing their jobs. The nation ought not tolerate tax cheats and neglect to reprimand negligent taxpayers, and surely it does not bail them out. Why, then, tolerate the mortgage fraud, neglect to pursue the malefactors, and bail them out? So hooray to the FBI investigation and thumbs down to those who want to turn a blind eye to those who orchestrated this mess.

I don't get it. Perhaps I just don't understand "modern" finance. This latest bailout perplexes me. As I understand the proposed statutory language, the Treasury is authorized to buy "mortgage-related assets from any financial institution having its headquarters in the United States." Those assets are the bad debts held by those financial institutions because they lent money to people who were incapable of repaying the loans or, just as bad, purchased the loans from the folks who lent money to people incapable of repaying. In doing so on a large scale, the managers of these institutions have put the financial health, the national security, and perhaps even the continued existence of the nation at risk. One wonders whether these folks thrive on risk, of any sort, even if it means taking others down with them. The frustrating aspect of this situation is that even though others are going down, many of these gamblers stashed their profits overseas, tax-free, and are laughing all the way to the foreign bank at the financial ignorance of most Americans, borrowers and politicians alike.

In order to buy these bad debts, the Treasury needs money. The legislation authorizes up to $700 billion of purchases. Where does the Treasury get this sort of money? If the question was asked of you or me, the answer would be, "We don't." The Treasury, however, has several options. The legislation authorizes the Treasury to borrow money. Under the proposal, the nation's debt ceiling would increase to $11.315 trillion. The legislation does not appear to prohibit the Treasury from "printing" money, although other considerations may make that option unlikely. And though the legislation says nothing about raising taxes, that is not something the Treasury can do on its own, though it could ask the Congress to do so, an outcome unlikely so long as the current Administration is in office.

Each of these three options, including the two that are unlikely to be pursued, pose their own grave dangers to the economic vitality of the nation. Printing money kicks inflation into high gear. Raising taxes draws down the ability of businesses and consumers to pay their bills, make purchases, and pay off debt. Borrowing money increases interest rates, which benefits some investors and hurts borrowers. Borrowing money also makes the nation even more beholden to those in a position to lend the money, namely, foreign countries and foreign investors rolling in dollars accumulated when Americans purchased foreign oil, foreign goods, and foreign services. Having a nation that spends beyond its means borrow even more money to bail out bad debts arising from individuals who spent beyond their means is not unlike pouring gasoline on a fire.

The Secretary of the Treasury admitted that the plan puts taxpayers at considerable risk. He thinks that eventually the Treasury will be able to sell some of the assets it buys and thus recover some of the money. Excuse me, but who is going to buy these assets? If people aren't knocking down the doors now to acquire them, why will they do so in a month, a year, or a decade? The only answer is that perhaps things will change. Sounds like a gamble to me, a gamble not unlike the practices that have created this mess.

When I criticized the so-called economic stimulus payments, in Can a Tax Rebate Band-Aid Stop the Economic Bleeding? , I explained why it makes no sense to toss good money after bad:

The issuance of tax rebates will enlarge the federal deficit. At some point, that deficit will haunt the economy in ways that no tax rebate, even an abolition of taxes, will cure. So long as consumption exceeds production, so long as more wealth, particularly dollars, flow out of the country than flow into the country, so long as certain items remain in short supply and project to remain that way, the nation's economic and financial health will worsen. Tax rebates will not increase the supply of clean water, oil, natural gas, or any of the other resources mismatched to the demands of the world population. In some ways, it makes the question about who should get a tax rebate seem trivial, almost like fighting over a deck chair on a sinking ship.

That the debt crisis is a symptom of a deeper problem is apparent to those who think about the situation carefully. As I also wrote in Can a Tax Rebate Band-Aid Stop the Economic Bleeding? :

It gets better. To finance the tax rebates, the Treasury will need to borrow money, because it doesn't have spare cash sitting around. From whom will it borrow? Someone with dollars to unload. Who might that be? Could it be the People's Republic of China? Saudi Arabia? The United Arab Emirates? Some international bank? Whoever it turns out to be, they will be looking for two things. They will want interest, because they're not going to lend the money for nothing. And ultimately they will want the debt repaid. Who pays the interest? Who repays the debt? It will be the taxpayers of the third, fourth, and subsequent decades of this century. These taxpayers, already burdened with individual debt, will discover that they lack sufficient funds to buy the things they need and the luxuries they desire without going into more debt. From whom will they borrow? At what point do the creditors say, literally, "We own you."

This nation has been living beyond its means for far too long. Most people, though not all people, in this nation have been living beyond their means. Some people need to live beyond their means simply to survive. A family of four trying to live on income of $25,000 will be racking up some of that credit card debt that has reached a total of almost one trillion dollars. Some people live beyond their means because they simply must have what they want. A very small slice of the population does not live beyond its means because its means are so huge that the limits of time and space prohibit a person from spending that much money. So these folks join the creditor nations in making most Americans their economic vassals. And to think we concluded the middle ages ended a few centuries ago. What a surprise!

The irony in the proposal is that the investment bankers who are screaming for assistance from the federal government are the same people who were railing against government regulation and intervention when they were racking up profits constructed out of theoretical home value increases. In Greed, Stupidity, Poor Judgment, and Taxes, written about a year ago, I criticized attempts to "solve" the problem by using the tax law to grant tax relief to speculators and gamblers. I wrote, "People and industries who damage the nation’s economy, health, environment, or defense posture ought to face the consequences of what they have done." I pointed out that a nation whose economy rests on the notion of a free market is placed at risk when market freedom is squashed by greed, stupidity, and poor judgment. I noted that to the extent existing provisions in the tax law encourage the sort of speculator behavior that has contributed to the crisis, those provisions should be repealed or modified. I also asked why an industry that made money lending to speculators and collecting fees when placing questionable mortgages was unable to use its profits to tide itself over when times got tough. I suggested that the lenders should disgorge those profits, though I suspect those profits have been funneled offshore. Very recently, in Risk Premiums With a Greed Tax?, I proposed instituting a fee or tax to encourage future gamblers think twice before taking risks and then trying to shift the cost onto others.

In my mind, I see a nation five, ten years from now, saddled with crushing debt, populated by bankrupt and near-bankrupt individuals, riddled with all sorts of economic problems, and struggling to survive as a world debtor beholden to a few foreign nations, while those who profited from the unregulated economic free-for-all of the 2000s bask in the sunshine in some litigation-proof haven. I'm sure my vision will alarm those who decry my resurgent pessimism, and again, I hope I am wrong. I would be glad to be wrong. But when I consider the predictions I made a year ago and three years ago, and then take a look at the current headlines, I continue to have little faith that those who kept telling us that "everything would be fine" have the ability to make it so.

On Friday, Dwight Evans, Chairman of the Pennsylvania House Appropriations Committee, wrote a letter to the editor of the Philadelphia Inquirer in which he explained why the turnpike lease proposal deserves a vote by the legislature. He made two major points. First, though he has heard the arguments against leasing the turnpike, he hasn't heard a better idea. Second, raising the gasoline tax or increasing license renewal fees or similar items won't work.

On his second point, the Representative and I are in agreement. I explored the reasoning for my conclusion in Are State Gasoline Taxes the Best Source of Highway Revenue?. In summary, the economics of the gasoline market, when projected into the future, strongly suggest that even with increases the gasoline tax cannot provide sufficient funding.

On his second point, the Representative and I are in different places. What I know is that he has not read MauledAgain. If he had, he would have learned from Tax Meets Technology on the Road, from Mileage-Based Road Fees, Again, and from Mileage-Based Road Fees, Yet Again that another approach to funding transportation infrastructure does exist. It's the mileage-based road fee, which I describe and advocate in those posts. Those posts contain links to more fully developed, detailed explanations, reports by states that have experimented with the fees, and other useful information.

On Friday, I sent an email to Dwight Evans. I pointed him to the existence of mileage-based user fees, and to the cited posts. I am awaiting a response. It will be interesting to see if I receive one. It will be even more interesting to see if the concept of mileage-based road fees gets any attention from the legislature.

Perhaps there should be a tax on greed. The tax would apply when a person's or entity's attempt to accumulate wealth, rather than "trickling down" benefits to society generally, harms society. Though some might argue that "society" should not have any right to collect a tax when it is harmed, the attempt to accumulate wealth would be pointless if there were no society, because only society provides a stable framework for the accumulation of wealth and only society makes the accumulation of wealth worth having as a goal.

With the most recent government bail-out of business managers and executives who demonstrated bad judgment, the nation is reminded that some people find ways to shift the cost of their errors onto others while other people must bear their own burden with little, if any, ability to be rescued by society. The argument that failure to bail out these reckless investors and managers would make things worse for the nation or even the world not only demonstrates the dangers of letting unelected people be in a position to make such planet-threatening decisions but also shows the extent to which they can push the nation into a corner. "So we messed up, what are you going to do about it?" becomes the begging refrain of highly compensated enterprise managers whose track record makes one wonder at the justification for the high compensation.

These recent problems arise from greed. Greed is not the desire to increase one's economic status, particularly because most people on the planet who have that desire pursue their dreams because they are trying to accumulate enough economic assets in order to survive. Greed is the desire to hold far more economic wealth than is necessary for survival, comfort, and even luxurious lifestyles. It is the desire to hold so much wealth that the wealth becomes an instrument of power more effective than the decisions of elected officials, and thus becomes a threat to democracy. Greed is exacerbated when it is coupled with impatience, much like the demand, "I want it all, and I want it now." Rather than letting businesses, lending, real estate development, and other markers of a national or world economy grow at an even, steady pace, crafty brokers and traders tried to bring tomorrow's business into the present, by encouraging people who were not yet ready to take on mortgage debt to do so. Why? Rather than waiting for the origination and other fees that would be available in a later year, the rush was on to accelerate this income into the present. To make this happen, certain people in the industries involved in what turned out to be bad planning persuaded campaign contribution recipients to throw out decades of protective regulation in the name of "free market enterprise" and restructured those industries so that the local level atmosphere that inherently guarded against unwise lending was overcome by the monopolistic and oligarchic nature of postmodern business. Just as mom-and-pop shops have been decimated by the bland big box businesses, so too the local banks and mortgage lenders were overcome by the national and global giants for whom everything is never enough.

Unfortunately, there are those who think the word "free" in the phrase "free market" means "free" to do whatever one wants to do to acquire economic wealth and status. What happens? Ultimately, the taxpayers and ordinary citizens are not free to avoid becoming the involuntary rescuers of the greedy whose plans for economic domination fell apart. There continues a pattern, which gives the winnings to the select few if the gamble works, and puts the losses on the rank-and-file if, or I should say, when the arrangement collapses under the weight of its own bootstraps.

Arguments in favor of lower taxes and decreased regulation rest, in part, on the notion that society cannot grow, expand, or become better off unless business entrepreneurs take risks, and that they are unwilling to take risks if taxes cut into their expected returns or if regulators impose costs that shift the variables that make the venture seem worthwhile. In other words, they prefer to avoid the cost of the risk, and in many instances the cost of the risk is such that the venture ought not be undertaken. Though it is true that risks need to be taken in order for a society and its economy to become and remain healthy and viable, there are risks that ought not be undertaken. When the process for preventing a foray into risky activity becomes subverted, those who would be protected suffer twice. Once all those homeowners who lost their life savings because they were encouraged into buying homes beyond their means, or not discouraged from doing so, get back on their feet, they will be looking at tax bills higher than they otherwise would have been because the government needs to collect hundreds of billions of more dollars to plug into the mess made by the risk takers who wanted no advice, input, or limitation imposed by government until they were in need of government, that is, society's, money.

There is a way to prevent future instances, no matter what cute word or phrase is selected to insert before the word "bubble" in order to create a fancy sound bite. People who engage in risky transactions ought to purchase insurance against failure. Because of the nature of these enterprises, and because almost all involve instances of government deregulation run amok, the premiums should be paid to the entity that ends up bailing out the failed enterprises. The less that the enterprise promises to be of societal value and instead a planned vehicle for a ride by the wealthy to even larger caches of economic value, the higher should be the premium. In other words, the more greed in the deal, the more premium that should be charged. That additional premium should be called what it would be, a tax on greed. If it causes people to stop and think before rushing headlong into another "get rich quick" scheme, then it will serve its purpose. Even if in a particular instance it generates no revenue because the way in which it looms over the projected market games causes people to stop, think, and take the wiser course, it would be a success.

But that might not be enough. The present crisis is not quite the simple destruction of wealth by natural forces, such as what happens when a hurricane devastates a coastline. The present crisis began by generating much wealth for a few, at the expense of many as time passed. Those few, rather than asking the many for a handout, ought to disgorge the wealth they acquired by engaging in these risky practices. Though much surely is sitting offshore somewhere, it is time for the representatives of the people to stand up for the well-being of all their constituents and teach those who are wrecking the nation and its economy the meaning of the phrase "make amends."

If there's a bigger tax chart, I've not seen it. This one is huge. It's three and a half feet tall. It's almost six feet wide. It consumes more than twenty square feet of wall space. And it comes to us from the guru of tax charts, Andrew Mitchel.

Yes, I have seen bigger charts. But they've not been tax charts. I've seen floor-t0-ceiling enormities in museums and in library displays. But they've been about topics other than tax. Once upon a time, I made a chart that was a mere two feet high, but it was almost thirty feet wide. No, it wasn't a tax chart. It was a family history chart. I still have it, but it's no longer on display. It's very much out of date, so it sits rolled up, in a closet.

Everyone who reads MauledAgain, and hundreds of tax practitioners throughout the world, are familiar with Andrew's tax charts. They number in the hundreds, they touch on a wide range of tax topics, they are useful and creative, and they help people visualize the intricacies of the tax law. I've shared comments and references to these charts here, here, here, here, here, here, here, here, here, here, here, here, here, here, here, here, here, here, and here. Yes, you really should click on each of those links. Or you can go directly to Andrew's topic or chronological listing.

This latest chart, though, is in a class by itself. It took three years to complete. It contains more than 325 color-coded boxes with questions and answers that help the user map out the consequences of transfers to and from foreign corporations. Each box contains a citation to the Code or other authority. So it covers a topic that simply isn't going to disappear, no matter what happens with or to the tax law, and it takes the tax practitioner on a guided journey through one of the tax law's most challenging thickets.

Generally, Andrew makes his charts available to one and to all. All it takes is a visit to the topic or chronological listing. But this chart is the chart of charts, a creation too big for a web page, beyond the capabilities of the desktop printer, and orders of magnitude beyond the utility of the outstanding topical charts Andrew has generated during the past few years. For this massive chart, visit Andrew's Tax-Charts.com site. It's not free, but it ought not be. It's the masterpiece.

Having seen this chart, I ask that same question that has been asked about cell phones, paper clips, and chocolate: How did we get along before they existed? How did tax practitioners manage to work through those complicated analyses of cross-border transactions without the quintessential map of cross-border transaction tax law?

Those practicing in this area will need to decide where to hang the chart. It needs to be a spot with a fairly large wall. The reception area? That might intimidate the clients. The senior partner's office? No, there will be too many interruptions as the tax lawyers pop in hour after hour to consult the chart. A conference room? Perhaps. One for each lawyer's office? Now there's an idea. Notice I didn't mention the library. Even if the firm has one, and many no longer do, the bookshelves own the walls. Wherever the chart Is hung, it indeed will be a conversation starter. Just tell your clients that it's a peek into a very small portion of a tax lawyer's brain. After all, that is what it is.

Last Thursday's news reaching the ears and eyes of those who advocate the imposition of tolls on I-80 to fund repairs and improvements to Pennsylvania's crumbling bridge and highway infrastructure was not good. As explained in U.S. Rejects Pa.'s Request for I-80 Tolls, a headline that almost says it all, the Federal Highway Administration refused to agree to the I-80 toll plan. The FHA explained that the flaw in the plan was the intended use of the toll revenues to fund highways and bridges other than those connected with I-80. According to the agency, use of the toll revenue must be limited to "legitimate and valid operating costs" of the road on which they are imposed. In other words, the state's plan violated federal law because the tolls "appear to have been predetermined by the Pennsylvania General Assembly based on considerations largely unrelated to the true costs" of operating and maintaining I-80.

This decision should come as no surprise to readers of MauledAgain. When commenting, in User Fees and Costs on the proposal in New Jersey to use highway tolls to reduce state debt incurred for unrelated purposes, I wrote:

As an advocate of user fees, I support the notion that toll roads should pay for themselves. The toll should be based on the cost of building, expanding, improving, repairing, maintaining, policing, and monitoring the road. It isn't difficult for a cost accountant to determine how much it costs to operate the New Jersey Turnpike, the Garden State Parkway, or any other toll road. Tolls should be increased as costs increase, and though it is preferable to recalculate the cost each year, it might be easier to use some sort of inflation index and do the cost recalculation every four or five years.

What many see as objectionable is the use of toll revenues from a toll road to fund other government projects and functions. I don't think there is a simple yes or no response to the question of whether this is fair, appropriate, or sensible. The analysis I support is one that looks at the impact of the toll road and its use on surrounding residents, neighborhoods, and infrastructure. Traffic volume surrounding a toll road interchange is higher than it otherwise would be, and that generates additional costs for the local government. It makes sense to include in the toll an amount that offsets the cost of widening adjacent highways, installing traffic signals, increasing the size of the local police force, adding resources to local emergency service units, and similar expenses of having a toll road in one's backyard. I understand the argument that because the locality benefits economically from the existence of the toll road and its interchange that it ought not be subsidized by the toll road. It is unclear, though, whether the toll road is a net benefit or disadvantage. If it were such a wonderful thing, why are new roads so vehemently opposed by so many towns and civic organizations?

Using toll revenue to maintain and repair roads and infrastructure far from the toll road is more difficult to justify. Other than relying on arguments such as the maintenance of a high quality state-wide road network that would attract more tourists and business ventures, proponents of siphoning toll revenue to distant areas have a, sorry, tough road to hoe. A better approach would be to impose tolls on heavily used roads in those distant areas. (emphasis added)

And as I mentioned in
Are State Gasoline Taxes the Best Source of Highway Revenue? , "It makes no sense to require drivers using the turnpike or I-80 to subsidize repairs to Routes 1, 3, 320, 252, or 202, to name but a few highways in the southeastern part of the state where I live."

So where does this leave Pennsylvania's need for funds to deal with its transportation infrastructure problems? The Governor used the decision as a springboard to resume hawking his turnpike lease plan. Though some legislators predicted that proposal would not be approved, others appear ready to cave if the amount bid for the lease were increased. In other words, for a high bid, they would be willing to give up control of the turnpike.

Readers of MauledAgain know what I think of the turnpike lease proposal. Here it is in a nutshell, as summarized in Are State Gasoline Taxes the Best Source of Highway Revenue? :

When it comes to leasing the turnpike, all that needs to be said at this point is that it is a terrible idea, at best a short-term solution with a excessive long-term cost, as I explored in Selling Off Government Revenue Streams: Good Idea or Bad? and in Selling Government Revenue Streams: A Bad Idea That Won't Go Away.

It is completely foolish and irresponsible to sell the seed corn, no matter what temptations are dished up by the buyer. The buyer isn't trying to give money to the state and its people. The buyer is trying to extract profits, and if there are profits to be extracted, they should be extracted by the state, that is, the people of the state, who essentially are the owners of the turnpike. Listening to, or reading, the comments by members of the consortium holding the winning bid for the lease is not unlike watching a hungry person drool over food.

One legislator noted that there were "few other alternatives" to coming up with the money. He asked, rhetorically, if the alternative of raising the gasoline tax should be considered. Good question. The answer is the same answer I give to the turnpike lease proposal: no.

So what's to be done? The FHA graced its rejection of the I-80 toll proposal with these palliative words: ""We commend Pennsylvania for thinking creatively in trying to find a solution to its transportation needs. Although we are unable to move the application forward, the FHWA stands ready to assist the commonwealth in finding other creative ways to fill the gap." So, let's be creative.

The solution? I've proposed mileage-based road fees several times and I propose the idea again. I supported my support for this approach Are State Gasoline Taxes the Best Source of Highway Revenue? :

It's easy, of course, to pan all three proposals [the turnpike lease, the I-80 toll plan, gasoline tax increases]. It's more difficult to provide a constructive suggestion. Yet in this instance it is easy. As I discussed in Mileage-Based Road Fees, Yet Again, the answer is the mileage-based road fee. As I previously explained in Tax Meets Technology on the Road and in Mileage-Based Road Fees, Again, this fee is not restricted to limited-access highways, does not require the building of toll gates and toll booths, is not dependent on the level of liquid fuels use, can be adjusted for the degree of wear and tear inflicted by the vehicle on roads and bridges, and is easy to administer. It already is being used in other jurisdictions.

The Pennsylvania legislature needs to look beyond the present and consider implementing ideas that are ready to be put in place for the future. Gasoline taxes, tolls, and selling public goods to profit-hungry private enterprises are, or at least should be, strategies of the past. They are being eclipsed by newer, better ideas, and Pennsylvania needs to get on board. It doesn't help when a leading state legislator describes tolls as the "wave of the future," because in doing so, what he demonstrates is a surprising ignorance about the actual wave of the future that already is in the present, namely, mileage-based road fees. With a $1.7 billion annual shortfall in road and bridge maintenance requirements, the Pennsylvania legislature cannot afford to continue functioning in ways that account, at least in part, for the stagnation in the state's population and economic growth.

So here's my question for the Pennsylvania legislature: Are you folks listening? Are you thinking? Are you being creative? Are you seeking help with this problem by reading blogs, especially this one? Or are you stuck in the 20th century, unable to think past that with which you are familiar, hesitant to be daring, reluctant to lead, and too uninformed to understand what 21st century technology can do for the Commonwealth of Pennsylvania and its people? It would be such a delight to hear from you.

More specifically, when can someone collect a tax but refuse to turn some of the collected tax over to the taxing authority? Not surprisingly, the answer is that it depends. There exist statutes permitting someone to retain some very small fraction of a collected tax as compensation for engaging in the collection process. A revenue department that outsources collections can offer the contractor compensation in the form of a percentage of the taxes collected.

A case in Georgia, City of Atlanta v. hotels.com, 654 S.E.2d 166, (Ga. App. Ct. Oct. 26, 2007), puts the question in a different, and interesting, context. Earlier this week, the case was argued before the Georgia Supreme Court. It involves the collection of the Atlanta hotel occupancy tax by online travel companies. These companies collect tax from the people to whom they sell hotel rooms based on the sale price, but remit the tax to the city of Atlanta based on the lower amount that they pay to the hotels for the rooms. The city of Atlanta contends that the online travel companies ought to remit to it the entire occupancy tax collected from their customers, whereas the travel companies assert that they are responsible only for the tax computed on the price they pay for the rooms. They treat the excess of the tax amount collected from their customers over the amount of tax reflecting the price paid by the companies as a "nonitemized service fee."

The case in Georgia is not unique. A similar issue has been raised in Wake County v. hotels.com, and in jurisdictions throughout the country. The Wake County opinion provides cites to some of those other cases.

Ultimately, the resolution depends on how a court parses the applicable statute. In the Georgia case, the appellate court held that the city had not yet exhausted its adminstrative process, and that the substantive question was not yet properly before the court. Whether the Georgia Supreme Court affirms that conclusion remains to be seen. The same outcome was reached in the Wake County case.

Fifteen years ago, there was no such thing as an internet-based hotel room resale industry. Its existence demands that state legislatures sit down and review their states' tax statutes to determine if they make sense in a transformed business environment. Local taxing authorities need to do the same with their ordinances and other enactments.

The procedural issue in City of Atlanta v. hotels.com rests on whether the online travel companies are subject to the taxing jurisdiction of the city. Unlike brick and mortar hotels that are subject to the occupancy tax, they are not physically within the city. The rooms that they sell are within the city, but those rooms are purchased by the companies from the hotels, which are paying the occupancy tax collected from the online travel companies, computed with reference to the amount the hotels charge those companies. So one core question is why the city of Atlanta thinks it is appropriate to impose yet another tax on the sale of the room by the online travel company to the actual consumer. The answer, I suppose, is that the city of Atlanta thinks that the statute entitles it to do so.

Unlike a sales tax, which applies to sales at retail and thus does not reach the wholesale transactions that occur between creation of the item and its retail sale, hotel occupancy taxes are imposed on the sale of occupancy rights to hotel rooms. No regard is given to whether those sales are to a wholesaler, which is what the online travel companies essentially are, or to the ultimate consumer. That is a flaw in the statute.

The state enabling legislation involved In the Wake County case imposes the obligation to collect and remit the tax on "[e]very operator of a taxable establishment," and defines a taxable establishment responsible to collect and pay the tax as " A hotel, motel, inn, tourist camp, or similar place that is subject to a room occupancy tax " The tax, however, is levied on "the gross receipts derived from the rental of any room, lodging, or accommodation furnished by a hotel, motel, inn, tourist camp, or similar place within the county that is subject to the State sales tax." The former language appears to contemplate brick and mortar establishments, whereas the latter language appears to focus on the transmission of the intangible occupancy right.

The resolution adopted by Wake County imposes the occupancy tax on "gross receipts derived by any person, firm, corporation, or association from the rental of any room, lodging or accommodation furnished by a hotel, motel, inn, tourist camp, or similar place within the County…" The resolutions of the other counties involved in the litigation have identical language.

All of this analysis focuses on the issue that the Georgia appellate court directed the parties to address first, namely, are the online travel companies subject to the tax? Only if the answer to that question is in the affirmative does one reach the next question, which is the computation of the occupancy tax. Should it reflect the amount for which the room is sold by the hotel to the wholesaler online travel company? Or should it reflect the amount for which the room is sold to the consumer? When the language imposes the tax on the "gross receipts derived … from the rental of any room …." the answer appears to be the latter formulation. The online travel company charges the consumer a certain number of dollars for the rental of the room. The fact that it pays a lesser amount to acquire that room does not reduce its "gross receipts derived … from the rental of any room."

In the Georgia case, there is imposed “a tax of seven percent of the rent for every occupancy of a guestroom in a hotel in the city.” The tax is imposed on both the consumer and the person or legal entity licensed by or required to pay a business or occupation tax to the governing authority imposing the tax for operating a hotel [or similar facility]. The obligation to remit the tax to the city is imposed on the entity operating the hotel. Though it appears as though the tax is imposed twice, it is imposed once. Are the online companies operating a hotel? Are they licensed to operate hotels? Are they required to pay business tax to Atlanta? The answers to these questions appear to be no, no, and no. The difference in language between the Atlanta ordinance and the resolutions adopted by the North Carolina counties could turn out to be the difference between a taxpayer victory and a taxpayer loss if, and when, the substantive questions ever are reached.

The lesson here is not so much, what is the answer to the question posed at the outset, as it is, what should legislatures be doing to bring tax statutes into the 21st century? Until and unless legislatures deal with these issues, taxpayers will face uncertainty and courts will need to unravel antiquated provisions. Of course, tax lawyers will earn fees, so perhaps they won't be so distressed.