MauledAgain

A little more than four years ago, in The Joys of IRC Section 86, I explained the convoluted manner in which Congress has specified that taxpayers determine how much, if any, of their social security benefits are subject to federal income taxation. I noted that Congress passed on the simple, appropriate, and valid approach of including in gross income the excess of what a person receives over what the person paid into the system. I described the origins of the provision requiring taxpayers to include in gross income the lesser of 50% of social security benefits or 50% of the excess of their modified adjusted gross income over a specified base amount. Next, I explained how Congress added an "85% layer" onto the "50% layer," causing totally unjustified complexity and abominable statutory language. I pointed out how this arrangement creates a bubble effect, which essentially means that someone receiving social security can be taxed at a higher marginal rate than the nominal marginal rate if they earn additional income because their gross income increases not only by the additional income but also by the additional social security treated as gross income because their modified adjusted gross income has increased and thus exceeds the base amount and the adjusted base amount by even more dollars.

Now, thanks to a comment by an anonymous reader, I've become aware of yet another quirk in section 86. It involves state income tax refunds. Generally, a state income tax refund is included in gross income if in the year the refunded tax was paid, a deduction for that tax was claimed and generated a tax benefit. The problem is that the state income tax refund, by being included in gross income, causes the taxpayer's modified adjusted gross income to increase, which in turn increases the amount of social security included in gross income. Yet, in the year that the state income tax was paid and deducted, the taxpayer's modified adjusted gross income was not decreased, because the state income tax deduction is an itemized deduction. So what exists is a double counting, not unlike the bubble effect. Not only is gross income increased by the amount of the state income tax refund, it is also increased by an additional portion of social security. An example demonstrates this bizarre phenomenon.

Suppose that in 2007 a married couple had $5,000 of state and local income tax withheld from their pension. They properly deduct the state income tax on their 2007 federal income tax return, but when they complete their 2007 state and local income tax returns they determine that they are entitled to refunds of $2,000. The refunds are paid to them in 2008. Because they itemized deductions in 2007, the $2,000 of state and local income taxes deducted in 2007 reduced their taxable income, thus generating a tax benefit. Accordingly, the $2,000 must be included in gross income for 2008. Assume that the $2,000 reduction in taxable income caused by the deduction of $2,000 of state and local income taxes destined for refund caused the couple's 2007 federal income tax liability to decrease by $300 because they were in the 15% bracket.

Assume that in 2008, the married couple has $40,000 of pension income, $10,000 of social security benefits, and no other income. Under the statute, their base amount is $32,000, and their adjusted base amount is $44,000. Their total gross income, before computing social security gross income, is $42,000 ($40,000 pension income plus $2,000 state and local income tax refund). Their adjusted gross income, and their modified adjusted gross income, is $42,000 because they have no deductions allowable in computing adjusted gross income. Fifty percent of their social security benefits is $5,000. This $5,000 is added to their $42,000 modified adjusted gross income and the $47,000 result is reduced by their $32,000 base amount, generating a section 86(b)(1) excess of $15,000. Because 50% of the social security benefits, that is, $5,000, is less than 50% of the $15,000 excess, that is, $7,500, the tentative amount to be included in gross income is $5,000.

Turning next to the second level of analysis, The $47,000 sum of the $42,000 modified adjusted gross income plus the $5,000 representing 50% of social security benefits exeeds the adjusted base amount of $44,000 by $3,000. Eighty-five percent of this $3,000 excess is $2,550. Next, an incremental amount is computed. It is the lesser of the $5,000 amount tentatively computed as social security gross income and $6,000, which is 50% of the $12,000 difference between the base amount and the adjusted base amount. This $5,000 incremental amount is added to the $2,550, generating an adjusted tentative amount to be included in gross income of $7,550. This is, in turn, compared to 85% of social security benefits, that is, $8,500. The lesser of the two amouns, $7,550, is included in the married couple's gross income. Accordingly, their actual gross income for 2008 is $49,550 ($40,000 pension income, $2,000 state and local income tax refund, and $7,550 social security gross income).

Does this make sense? Let's now assume that with careful, though pragmatically very difficult tax planning, the married couple had caused the state and local income taxes that were withheld from their pensions to be $3,000. Their 2007 federal income tax liability would have been $300 more than it was, because their state and local income tax deduction would have been $3,000 rather than $5,000. What happens in 2008?

In 2008, the married couple still has $40,000 of pension income, $10,000 of social security benefits, and no other income. Under the statute, their base amount is $32,000, and their adjusted base amount is $44,000. Their total gross income, before computing social security gross income, is $40,000 ($40,000 pension income). Their adjusted gross income, and their modified adjusted gross income, is $40,000 because they have no deductions allowable in computing adjusted gross income. Fifty percent of their social security benefits is $5,000. This $5,000 is added to their $40,000 modified adjusted gross income and the $45,000 result is reduced by their $32,000 base amount, generating a section 86(b)(1) excess of $13,000. Because 50% of the social security benefits, that is, $5,000, is less than 50% of the $13,000 excess, that is, $6,500, the tentative amount to be included in gross income is $5,000.

Turning next to the second level of analysis, The $45,000 sum of the $40,000 modified adjusted gross income plus the $5,000 representing 50% of social security benefits exeeds the adjusted base amount of $44,000 by $1,000. Eighty-five percent of this $1,000 excess is $850. Next, an incremental amount is computed. It is the lesser of the $5,000 amount tentatively computed as social security gross income and $6,000, which is 50% of the $12,000 difference between the base amount and the adjusted base amount. This $5,000 incremental amount is added to the $850, generating an adjusted tentative amount to be included in gross income of $5,850. This is, in turn, compared to 85% of social security benefits, that is, $8,500. The lesser of the two amouns, $5,850, is included in the married couple's gross income. Accordingly, their actual gross income for 2008 is $45,850 ($40,000 pension income and $5,850 social security gross income).

So without the state income tax refund, the married couple's 2008 gross income is $45,850, a whopping $3,700 less than the $49,550 that it would be if there were a $2,000 state and local income tax refund. Put another way, the inclusion of a $2,000 state and local income tax refund in gross income causes gross income to increase not by $2,000, but by $3,700. The "extra" $1,700 arises from the $1,700 increase in social security gross income. Note that $1,700 is 85% of $2,000. Ignoring the impact, if any, of the change in adjusted gross income on the couple's itemized deductions, the couple's taxable income increases by $3,700, causing their federal income tax liability to increase, assuming they are again in the 15% bracket, by $555. In other words, the $300 tax benefit generated by the state and local income tax deduction in 2007 requires the couple to pay not an additional $300 in 2008, but an additional $555. As I asked in The Joys of IRC Section 86 with respect to the section 86 bubble effect, "How can that be justified under any philosophical, moral, or theological canon?"

It is true that the tax benefit rule itself is flawed, because even if 2008 gross income increased by only $2,000 on account of the inclusion in gross income of the state and local income tax refund, the married couple's 2008 federal income tax liability could have increased by more than $300 if they were in a higher tax bracket. Yet if they were in a lower bracket, their tax would increase by less than $300, or perhaps not at all. The flaw can work both against and in favor of taxpayers. On the other hand, the glitch in section 86 works against the taxpayer and only against the taxpayer.

So what we have here is yet another reason to jettison the abomination that is section 86. None of the arguments in its favor make sense. The Social Security Administration knows how much a person has paid into the system, as is evident from the annual statement that it sends to each person who has paid into the system at one time or another. The Social Security Administration knows how much it pays to each recipient, and thus easily can compute the amount, if any, of each payment, that represents amounts exceeding what the person has paid into the system. The excuse that this cannot be done is as weak as the excuse that a carry-over basis rule at death won't work because basis is not known, even though were the decedent to have gifted the property shortly before death a carry-over basis rule would have applied. One must be wary of bad rules that are justified on false claims of inability. Section 86 is such a rule. It is long past time for its demise.

Something that I read the other day in an article summarizing possible tax cuts under the Obama economic stimulus plan reminded me of how difficult it is to keep pace with the tax law as enacted, let alone project what the future tax rules might be. One of the provisions tagged for possible changes is section 179, though the article does not cite it, perhaps because of space limitations or perhaps because of concerns that the sight of a Code cite would encourage too many readers to close down the web page before finishing the article. Footnote to law students, lawyers, and accountants: please note that both "sight" and "cite" were used in the same sentence, correctly and without confusion, and please try to avoid switching one for the other.

According to the article, "Obama would increase the amount of expenses small businesses can write off to $250,000 in 2009 and 2010, up from $125,000 currently." This sentence refers to the deduction allowed by section 179, under which a limited amount of otherwise capitalized expenditures are permitted to be subtracted in computing taxable income in the year of the expenditure rather than over some period of time determined under the depreciation deduction provisions. The advantage to the section 179 deduction is that it reduces tax liabilities in the year of the expenditure by much more than would the depreciation deduction, thus, in theory, increasing the cash flow of the business making the expenditure. This increased cash flow, it is argued, permits the business to increase its consumption, thus stimulating the economy. What concerns me at the moment is not so much the theory as the ever-changing limit that applies to section 179.

Section 179 has a long history. Originally, it was enacted to spare business taxpayers the cost and aggravation of computing depreciation deductions for expenditures so small in amount that the time invested in doing the computations simply wasn't worth it. By 1983, the limit was a whopping $5,000. Under section 202(a) of the Economic Recovery Tax Act of 1981, the limit was scheduled to increase to $7,500 for 1984 and 1985, and to $10,000 for 1986 and thereafter. Section 13 of the Deficit Reduction Act of 1984 altered these changes before they went into effect, locking the limit in at $5,000 for 1983 through 1987, increasing it to $7,500 for 1988 and 1989, and delaying the increase to $10,000 until 1990 and thereafter.

Those scheduled increases went into effect as planned. Thereafter, section 13116(a) of the Omnibus Budget Reconciliation Act of 1993 increased the limit to $17,500 effective for 1993 and thereafter. The Small Business Job Protection Act of 1996, specifically section 1111(a), increased the limit to $18,000 for 1997, $18,500 for 1998, $19,000 for 1999, $20,000 for 2000, $24,000 for 2001 and 2002, and $25,000 for 2003 and thereafter. However, before the planned 2003 limit went into effect, section 202 of the Jobs and Growth Tax Relief Reconciliation Act of 2003 increased the limit to $100,000 for 2003 through 2006, and also provided that this amount would be increased to reflect inflation. Accordingly, the limit was raised to $102,000 for 2004 (Rev. Proc. 2003-85, 2003-2 C.B. 1184), to $105,000 for 2005 (Rev. Proc. 2004-71, 2004-2 C.B. 950), and to $108,000 for 2006 (Rev. Proc. 2005-70, 2005-2 C.B. 979).

A year after the limit was temporarily increased to $100,000, section 201 of the American Jobs Creation Act of 2004 extended the $100,000 limit through 2007. Two years later, section 101 of the Tax Increase Prevention and Reconciliation Act of 2005 further extended the $100,000 limit, as adjusted for inflation, through 2009. Section 8212 of the Small Business and Work Opportunity Tax Act of 2007 extended the limit through 2010, and also increased the limit to $125,000 for 2007 through 2011. But Congress wasn't finished. Section 102 of the Economic Stimulus Act of 2008 increased the limit to $250,000 for 2008, without any adjustments for inflation.

At the moment, this is where things stand. The limit is $250,000 for 2008, for 2009 it will revert to $133,000 ($125,000 adjusted for inflation), for 2010 it will be $125,000 adjusted for inflation, and then in 2011 it will be $25,000, without any inflation adjustment. Confused? Welcome to tax world. If there's an advantage to this ever-changing set of rules, it's that students cannot use outlines from earlier semesters and the same question can be used for testing purposes without last year's answer being correct!

Thus, the sentence in the article that states, "Obama would increase the amount of expenses small businesses can write off to $250,000 in 2009 and 2010, up from $125,000 currently." is technically incorrect, because absent any legislative changes the limit for 2009 would not be "$125,000 currently" but $133,000. The limit for 2010 would be some amount probably in the vicinity of $135,000 but currently incalculable because the requisite inflation adjustment factors are not yet known. It is understandable that considering the constantly shifting section 179 limit, someone looking at the statute would think that the 2009 limit would be $125,000.

Why the reversion in 2011? The legislation that increased the limit did so for limited periods of time rather than permanently because of budget considerations. It's easier to sell a tax cut if it does not impose a permanent revenue loss. Of course, as the history of this one provision indicates, the likelihood of the limit being $25,000 in 2011 is slim. It almost surely will be something much higher than that.

It has been said that a tax law professor could teach tax law using only one Code provision. Section 179 certainly is a candidate for such an experiment. It provides not only an excursion into tax policy but also a brutally realistic exposition of how one determines "what the law is." From the tax policy angle, one can debate whether these limit increases do much of anything for the economy, and one can have fun deciding if the titles of the enacting statutes accomplished what the Congress grandly proclaimed that they would. On the technical side, it demonstrates why a tax practitioner, and tax students, need to read more than the statute to determine what the law provides. In this instance, revenue procedures become very important. When I am going over a problem in class and students ask, for example, "Where did you get $105,000?" I knew that they had not read the assignment. When students rely on secondary information, they leave themselves helpless to keep up-to-date. For example, the revenue procedure to be issued at the end of 2009 will be the source for the inflation-adjusted limit for 2010, barring further legislative tinkering.

There are few, if any, businesses or professions that could survive with this sort of fiddling. Multiply section 179 by the hundreds of Code provisions that are tweaked or overhauled every year or two. Would a professional sport survive if the rules were changed two, three, or four times a year, or during the season? Would a manufacturer stay afloat if production line standards were altered three and four times a day? The learning process requires time to "digest" material and processes, and if the changes occur at a rate faster than the learning process, learning does not occur. Performance slips, critical and fatal errors are made, and societies crumble. Yes, that sound very dire, but studies prove that tax compliance declines as tax law change frequency increases.

A sharp-eyed reader will note that my entire discourse is technically flawed. Each time I referred to a year in the phrase "for [year]" I should have been writing "for taxable years beginning in [year]." Why did I not do that? Because I am trying to keep my sentences comprehensible. For the points I am trying to make, that technical expression of the effective dates isn't all that important. There are enough words in my sentences without my trying to be technically precise when it doesn't matter that much.

So what will happen? The section 179 limit for 2009 will almost certainly be something other than $133,000. In the fall of 2009, I will have yet another opportunity to give my students an example of how the Congress can obsolete a revenue procedure, or a provision in a revenue procedure, by enacting retroactive legislation. I will continue to have the opportunity to show my students that for tax and other lawyers what matters is not so much the answer, but how one arrives at the answer. I could have written today's post simply by listing the years and the limits for each year in a short and tidy table. That would provide information. What I did write provides understanding. Information is cheap, and floods our senses. Understanding is valuable and much more difficult to obtain. It is much easier to cope with rule changes when the rules are understood than when the rules simply are known.

Through all of this, I omitted any discussion of the reduction of the limitation, and yet another section 179 amount that is used in determining that reduction. It, too, has been changed numerous times. That is information not essential to the point I wish people to understand. I also omitted the many reductions and increases to the limit under discussion that are made for expenditures for sport utility vehicles, expenditures by enterprise zone businesses, expenditures by renewal community businesses, expenditures for qualified New York Liberty Zone property, expenditures for qualified Gulf Opportunity Zone property, expenditures for qualified disaster assistance property, and expenditures for qualified recovery assistance property. Please don't feel deprived. Even the students in the basic federal income tax course do not get to visit these places.

On Friday, reports such as this Philadelphia Inquirer story brought the news that the National Commission on Surface Transportation Infrastructure Financing (NCSTIF) has recommended a 50% increase in the federal gasoline tax to provide funding for road construction and repair. The increase is required simply to keep pace with previous year fuel tax revenues, because declining gasoline use has reduced revenues. Gasoline use is declining because motorists are cutting back on their driving and because the vehicles that are being used are more fuel efficient. Compounding the problem is the fixed rate nature of the tax, unadjusted for inflation and not increased since 1994. Further compounding the problem is the anticipated increase in fuel-efficient vehicle use in coming years.

The NCSTIF views the increase as a temporary measure. It envisions a different long-term revenue mechanism. Much to my delight, the commission's long-term solution is a mileage-based fee system. I first explored this concept in Tax Meets Technology on the Road, examined the concept further in Mileage-Based Road Fees, Again, and early this year took an even closer look in Mileage-Based Road Fees, Yet Again. A few months ago, as reported in Introducing Mileage-Based Road Fees to the Pennsylvania Legislature, I wrote to Dwight Evans, Chairman of the Pennsylvania House Appropriations Committee, pointing out to him the existence of these fee concept and suggesting that it provided a way out of the road maintenance funding challenges facing the state. I've yet to receive a response.

The NCSTIF is the second commission to make a recommendation. About a year ago, the National Surface Transportation and Revenue Study Commission (NSTRSC) also recommended and increase. The latter group's recommended increase of 40 cents dwarfs the 10-cent increase contemplated by the NCSTIF. With an annual road funding gap of $105 billion expected to increase to $134 billion in less than 10 years, it seems unwise to provide only one-fourth of what is required.

The primary obstacle to the short-term fix, and perhaps to the more permanent mileage-based fee solution, is the crazy world of politics. Some claim that one of the reasons the Democratic Party lost control of the House and Senate in the 1994 elections was the gasoline tax increase enacted that year. The world of politics is a strange one. The same citizens who rail against gasoline tax increases also explode in anger when interstate bridges collapse. One of the members of the NCSTIF, a vice-president of a libertarian think tank no less, put it nicely when he said, "We can either let the roads go to hell, or we can pay more." In some instances, taxes, or more specifically, fees, could be the road to heaven, or at least to transportation paradise. Let the bridges fall down and the roads crumble into pot-hole-ridden tracks, and the delivery of food, medicine, and clothing breaks down, to say nothing of the ability of people to reach their ultimate destinations. Comparatively few people, few stores, and few factories are adjacent to airports and railroad stations.

Some have suggested that the increase be marketed as a cost of preventing more serious climate change. It could be called, they offer, a carbon tax. Others note that it could be advertised as a cost of reducing dependence on foreign oil, which has both economic and global security overtones. I wonder, though, whether that would make the impact at the pump any more palatable.

Someone needs to educate America about the connection between road fees and road condition. Reportedly, the president-elect has "expressed concern" about increasing the federal gasoline tax given the state of the economy. However, as I stressed in Leaders as Teachers: Fixing the Financial Fiasco, "the key will be getting people to admit that thoug a measure is not popular, it is necessary and needs to be undertaken….It's time for the nation to go to school." We're going to find out, very soon, how good a faculty the new faces in Washington will be.

On New Year's Eve I heard a commercial on the local news radio station for something called "Fix Housing First," and so I went to its web site to learn more about the proposition that the first thing Congress needs to do is to create a tax credit for home purchases and a permanent low mortgage interest rate. Indeed, the web site does advocate those two proposals. It is difficult to determine if the folks behind the web site are asking simply that housing relief be part of a stimulus package, which is what the tag line in the upper right corner of the web page explains, or pushing for the primary focus to be on these two housing market ideas, which is what the explanation near the bottom of the web page suggests.

According to the explanation of why housing matters, the web site presents an interesting prediction. The first step, it argues, is to "Stop the fall in home values and prevent future foreclosures." That will lead, so the argument goes, to "Restore consumer confidence," which in turn supposedly would "Create jobs." That step would then "Lift our entire economy." Wow, isn't it amazing how the success or failure of the entire economy depends solely or chiefly on the industry whose advocates are making the argument? The Fix Housing First web site is presented by the Fix Housing First Coalition, which describes itself as "a diverse group of housing stakeholders – including homeowner and community groups, home builders and manufacturers – dedicated to addressing the root cause of our economic troubles." Last week we were being told that rescue of the automobile manufacturing industry was the critical path to economic salvation. Several months ago we were told that pouring hundreds of billions of dollars into bad loans was the solution, though shortly thereafter the Treasury implied that the path to economic robustness was making money available to banks so that they could purchase other banks. It was only half in jest that in Cutting Up the Economic Distress Remediation Pie I advocated a $50 billion bailout of yours truly as the key to economic recovery, while I addressed the assertion that double taxation of corporate income was to blame. It seems to me that underneath each seemingly well-crafted "me/us first" argument is nothing more than greed combined with an inflated sense of self-importance.

If the advocates of Fix Housing First want a return to the housing market of 2006, they're asking for nothing more than a continuation of the current mess. The housing market collapse was and is a symptom of the problem. Dealing with symptoms is meaningless if the underlying issues are not addressed. The housing market collapsed because people committed themselves to mortgage payments that they were unable to make. A combination of living beyond one's means and banking on a delusional belief in eternal housing price increases doomed that market. The two proposals advocated by Fix Housing First are nothing more than a repeat of the "have a house even though you cannot afford it" mantra that fueled the housing bubble. Let's not repeat that mistake.

Surely it is a problem that many Americans cannot afford housing. They cannot afford housing for three reasons. First, some of them do not have jobs. Second, some of them have jobs, but those jobs provide pay that is inadequate for housing acquisition. Third, housing prices remain high relative to wages because of land shortages in the areas where people prefer to live. The solution to the first two causes is job creation. The solution to the third cause is job dispersal.

Job creation is a function of two variables. One is the existence of work that needs to be done. The other is the availability of resources to pay to have that work done. There is no question that much work needs to be done in this country. Infrastructure needs repair and expansion. Buildings need to be retrofitted for efficient energy use. Diseases need to be cured. Sick people need care. Lawns need to be mowed. Snow needs to be plowed. The challenge is not identifying work to be done, but in finding the money to pay people to do the work. Here is where one asks whether the most efficient allocation of wages is to pay huge salaries to a select few and poverty-level wages to the many. How many jobs could be created if some mechanism existed to discourage salaries exceeding, for example, $1,000,000? What company gets more done, the company with a CEO earning $50,000,000 per year and 1,000 employees each earning $30,000 per year, the company with a CEO earning $1,000,000 per year and 2,630 employees each earning $30,000 per year, or the company with a CEO earning $1,000,000 per year and 2,000 employees each earning $40,000 per year? Before the "free market" advocates step forward to claim that the first type of company must be the most efficient because it dominates the economy, one should note that if these companies were so stupendously getting things done the economy would be in great shape. What the first type of company does well is to make money for its shareholders and highly-paid executives, a goal consistent with unregulated capitalism but not necessarily favorable to the maintenance of a healthy economy.

Creating jobs and increasing the pay of rank-and-file employees, whether in this manner or in some other, increases the number of people who can afford home acquisition. That is how the housing market will rebound. People with jobs have more consumer confidence that those who do not. People with higher paying jobs have more reason to be confident. People who are surrounded by other people with jobs and by people whose pay is increasing tend to be more confident than those who watch their neighbors, friends, and relatives get pink slips so that the executives can continue to collect their salaries.

Job dispersal is a more complicated matter. People gravitate to the geographic areas where jobs are created. Despite predictions that internet and other technology would permit people to live wherever they chose, and despite the fact that a handful of people have been able to make those arrangements, the simple fact is that people continue to migrate into the large cities and the suburbs that are part of metropolitan areas, while small towns shrink into unsustainable existence or disappear from the map. Aside from the national security benefits of job dispersal, the movement of populations from areas where land is abundant to cities where land is exhausted puts upward pressures on housing prices that need not and should not be enabled by existing or proposed tax and economic policies. If tax credits are to be made available for housing purchases, they should be limited to purchases in areas in need of population in-flow. Several such credits already exist in the tax law. If mortgages are to be provided at below-market rates, they should be made available to persons purchasing homes in areas that are in need of housing rehabilitation, such as inner cities and desolate small towns. The idea of giving a tax credit and a permanent low-rate mortgage to a well-compensated individual to purchase a condominium in Manhattan or a second home on Nantucket or in Newport Beach makes no sense whatsoever.

The point is that by creating jobs, consumer confidence increases, and that confidence will rev up activity not only in the housing market, but in the automobile market, the clothing market, the electronics market, and the other markets dealing with the downturn and claiming to be THE market deserving of first-in-line status for tax credits, bailout money, or other special breaks. The interdependency of the market segments within the economy decries the outmoded notion of characterizing or treating one specific industry as THE essential foundation for the economy.

Perhaps in all of this is an answer to rescue the television and entertainment market. Rent a room. Invite a representative from Fix Housing First, a representative from Fix Automobile Manufacturing First, a representative from Fix Banks First, a representative from Fix Bad Loans First, a representative from Fix Oil Drilling First, a representative from Fix Airlines First, and so on. Set up a camera. Put one $100 billion tax credit, one $200 billion bailout check, and one Get-Out-of-Jail-Free card on a table. Set up and turn on a camera. Call the show "Me First." Perhaps viewer disgust at the proceedings would bring some attitudinal changes into the economic culture.

It is impossible for me to tally how many times I have said to my students, in one or another class, "We law professors don't need to make these up. The best hypotheticals and the best problems are found in life." As 2008 comes to a close, it's worth looking at CNN's Fortune Magazine listing of the year's "21 Dumbest Moments in Business 2008". Why 21 and not the typical 10 or Fortune's benchmark 500? I do not know. Perhaps because a person is required to live 21 years before the law permits the person to drink alcohol, an activity in which both the participants in these 21 stories and the people reading them might be tempted to do.

The tag line for the story deserves a salute. "We don't know whether to laugh or cry. Our annual list of the year's most laughable moves proves that, even in moments of crisis, stupidity lives on." Somehow, evolution theory hasn't yet explained how stupidity continues to thrive and multiply.

Many of the 21 stories provided grist for the MauledAgain mill at one point or another during the year. Sometimes they caught my eye because there were tax implications, sometimes because they reflected the environment and attitude that nurtured the current economic mess, and sometimes because they compelled me to think about the inadequacies of the educational systems that trained the folks whose decisions or words fueled these stories. Were it not for the fact these events happened, no one would believe that they did.

As I read through the 21 stories, I asked myself, "If I had to pick the winner, which would it be?" I narrowed the list down to five. Here they are, in no particular order:

* Paulson's 3-page plea for $700B, featuring the prize-winning proposed statutory language barring legislative or judicial review of the Treasury's decision making with respect to the $700 billion made available for economic recovery purposes.

* Bloating up the bailout, describing how Congress packed hundreds of pages of pork barrel spending and tax give-aways into the bailout legislation, causing a Congress that had rejected the idea of a bailout to embrace it as the next best thing to chocolate.

* Mozilo's 'disgusting' reply-all, describing the email erroneously sent by Countrywide's CEO to everyone in the company, tagging the distressed borrower's request for assistance as "unbelievable' and 'disgusting,' labels that only he would apply to the situation in which he found himself after Bank of America purchsed the company, that is, unemployed.

* Housing rescue comes up short, detailing the fortunes, or should one say, misfortunes, of the Hope for Homeowners legislation, a plan by Congress to guarantee $300 billion in mortgages and to prevent 300,000 foreclosures, a plan so stellar that since its launch three months ago only 321 applications have been filed and none have received final determination.

* Phil Gramm's 'mental recession', recalling former Senator Phil Gramm's comments, made while serving as Senator John McCain's campaign co-chair, that by voters expressing their concerns about the economy were a "nation of whiners" and that the growing economic mess was but a "mental recession."

All five of these stories exemplify the deficiencies in leadership that have brought this nation's economy to a near-standstill. Two involve Congress, and I set them aside because Congress churns out stupidity so often there's nothing spectacular about it. Another involves a member of the current Administration acting as though perfection was so synonymous with his actions that oversight would be useless. That, too, isn't a particularly novel situation. Yet another involved a former member of the Congress, letting the nation see how disconnected he and his circle were from the realities facing most, if not nearly all, of the nation's populace. It's disappointing and foolish, but not so startling that it should take an annual prize. That leaves the hard-hearted, ruthless, insensitive, short-sighted former CEO of Countrywide, an icon for the business culture in which the tough times afflicting so many was brewed and nurtured. So focused on generating money, no matter the social or long-term price, these money dealers lost sight of why their businesses existed.

One of the 21 stories, Microsoft overbids for Yahoo, explaining how Microsoft offered 161% of the amount for which Yahoo stock was then trading, stock that by the end of the year was trading for 40% of that amount, prompts me to ask a question. This story wasn't a finalist, because companies offering too much when seeking to acquire assets is so common an experience it generally would get a yawn. But in this instance, because of the companies involved, I ask this: "Does Microsoft think that spending money to acquire Yahoo so that it can keep up with Google would somehow make its core product more efficient, more secure, more affordable, more user-friendly, more reliable, and more capable?" In the rush to get bigger, and thus more of a risk to the economy, business entrepreneurs forget that one should not move along to fourth grade until one passes third grade. When Microsoft gets its Windows and Vista operating system working the way they ought, then it should think about trying to "out-google" Google. Imitation is not a good form of creativity, and hopefully when the culling triggered by the current economic crisis is finished, genuine creativity will have surpassed the practice of buying, stealing, copying, imitating, and riding on the ideas and efforts of others. Perhaps the smart approaches will displace the stupid ones. Perhaps.

And on that note, a happy 2009 to all.

Last week, in a letter to the editors of the Philadelphia Inquirer, Scott Duman proposed that all employee payroll and federal income taxes be suspended for six months, all corporate income taxes be suspended for three months, and all capital gains taxes and taxes on dividend income be eliminated for all of 2009. At least part of this idea is not Duman's alone. Two economists, one from Stanford and the other from the University of Rochester have proposed cutting the social security payroll tax and making up the shortfall from general revenues. The National Retail Foundation is proposing a sales tax holiday. In contrast, Michael Kinsley has jumped onto one of my favorite ideas, raising the gasoline tax to absorb the difference between last summer's high prices and this winter's much lower prices.

The idea of having the federal government stop collecting all income and employee payroll taxes is downright dangerous. Where would the federal government obtain money to pay its employees, to maintain the Armed Forces, to make social security and medicare payments to retirees and disabled individuals, and to pay interest on its debt, to give but a few examples of how the cutting off of tax revenue would cripple the nation. Speaking of debt, I suppose Duman prefers that the government borrow even more money to offset the tax revenue loss, so that in future years there would be even more need for tax revenues to pay even higher interest charges. Almost two years ago, in another letter to the editors of the Philadelphia Inquirer, Duman gave a clue as to his solution. He would cut government spending, and I suppose with his proposed cut-off of most federal revenue, he would cut all government spending. In making his argument, Duman touted the successes of the current Administration's economic and tax policies. He noted that home mortgage interest rates were low, that unemployment was low, and that tax receipts were at a record high. Funny how that played out. What appeared to be wonderful news two years ago was simply the illusion that smoke-and-mirror politics casts upon a then-unsuspecting populace.

Duman's proposal reeks of the same political viewpoint that abetted the activities leading to the current economic mess. Note carefully that taxes on capital gains and dividend income would be eliminated for twice the period individual income taxes would be suspended. Perhaps Duman thinks that the rich and moderately wealthy, who are the recipients of most taxable capital gains and dividend income, would put the additional cash flow to good use. Perhaps they would seek out investments with Bernard Madoff or with some investment banker intent on making loans to people with no income, no jobs, and no assets?

Duman's proposal intensifies the same economic malaise that has plagued this nation for several decades. Cutting off revenue for the social security system simply accelerates the date on which the trust funds are exhausted. Considering Duman's aversion to taxation, I suppose the solution is the now not-so-hidden goal of eliminating the Social Security system. Or does Duman think the nation ought to borrow even more money to fund Social Security? Duman's defense of his proposal is that taxpayers would spend the amounts not paid in taxes, thus energizing the economy. This "spend now, pay later" mindset is a significant factor in what ripped apart the economy's infrastructure, and to suggest doing more of the same is not much different than suggesting that the cure for a sunburn is to sit on a beach on a cloudless day bereft of sunscreen.

At least the two economists propose a remedy for the suspension of payroll tax collection. To keep money flowing into the trust funds, they suggest taking those amounts out of the general budget. But to accomplish this, the government needs either to raise taxes or borrow money. I suppose it could print money, but the inflationary effects of doing so are on the Federal Reserve's "don't let it happen" list, making it a very unlikely solution. The two economists point out that suspending payroll taxes would make it less costly to hire workers, but if employers have no work for people to do, they're not going to hire someone even if the person offers to work for one dollar a year. They claim that their idea does a better job of stimulating domestic production than does sending out rebate checks or enacting a sales tax holiday, but I disagree. No matter how extra money is directed into the pockets of consumers, some of that money will be set aside and the rest will be spent, without any guarantees that the products being purchases are produced domestically. The one enticing argument made by the two economists is that a payroll tax suspension reaches lower income households, who surely constitute a substantial portion of those who are in tough economic positions.

The conundrum goes beyond the question of taxes and spending. The conundrum is hidden because the economy is measured with monetary units and monetary equivalents. The trade deficit, the federal budget deficit, tax revenues, per-capita consumption, the amount of foreclosed loans, and many other benchmarks are measured in dollars. Some items, such as barrels of imported oil, natural gas production, and gasoline inventory, are measured in units, but those units generally are not expressed in per-capita terms nor are they expressed as percentages of total resources. Though many economists consider supply-and-demand curves to be at the root of economic analysis, I prefer to think that resource allocation models are more relevant. There is no supply-and-demand curve for triceratops horns, for dodo bird eggs, or for any other item that has been fully consumed by society. We are now at a point where the consumption to date of certain key resources, such as oil, clean water, and certain precious metals, has reduced the planet's inventory to levels that cannot supply anticipated future demand or that can do so only with serious economic displacements. The answer that reductions in supply often reduce demand aren't going to work when the commodity in question is, for example, clean water. That is why economic analysis can be informative only within a larger political framework.

Thus, barring a significant change in consumption patterns, current economic woes may seem trivial compared to the global ramifications of "spend and consume now, pay later" mentalities. The solution is not to try to cajole the economy into resuming past patterns, but to shift into a "spend and consume less, save more, and reduce debt" mode. That shift is going to be painful, not only in an economic sense but in social, political, and even military terms. From this perspective, it makes far more sense to raise taxes, such as gasoline taxes, and to make it even more costly to consume nonrenewable resources. Going on a tax holiday is one of the worst things that this nation could do. That would be the equivalent of spending hours in a tanning booth before going out into the sun without sunscreen. Postponing the inevitable makes no sense if postponement makes the inevitable worse.

Here's yet another one of those tax questions the answer to which is "It depends." It's the next question that often stumps student and practitioner. "On what?" I like these issues because they rip apart the threads holding together the specious assertion that tax is merely a thing of numbers, a game of computations, and thus, not law. Some folks simply cannot conceive that tax analysis is much more like law than it is accounting, auditing, or arithmetic.

It is notable that two days before Christmas, the Tax Court issued an opinion dealing with the tax consequences of human reproduction accomplished through other than what I will call the "traditional" approach. Two thousand years ago, the Roman Empire imposed taxes of a sort that did not require anyone to deal with the issue of how taxpayers came into being. But in this day and age, advances in medical technology present issues that would not have been faced by those practicing law 20 years ago, let alone by citizens and residents of the Roman Empire.

On Tuesday, in Magdalin v. Comr., no, not Magdalene, the Tax Court held that a man was not allowed to deduct the costs of having an anonymous female donor's eggs fertilized with his sperm and of having two other women carry two of the embryos through the gestation period. These costs included fees charged by the in vitro fertilization clinic, amounts paid to the gestational carriers, legal fees, prescription drugs, and charges imposed by the hospital where one of the births occurred. The taxpayer was not married to the donor or either of the carriers, nor were any of them his dependents. According to the facts, the taxpayer had twin sons with his former wife, and those children were born without the benefit of in vitro fertlization. The facts also note that the taxpayer had no medical problems with his reproductive capacity. The procedures were expensive propositions, amounting to almost $100,000 over a two-year period. Only a bit more than $60,000 was claimed as a deduction because of the 7.5-percent floor on the medical expense deduction.

In order for an expense to be qualify for the medical expense deduction, it must be paid either "for the diagnosis, cure, mitigation, treatment, or prevention of disease" or "for the purpose of affecting any structure or function of the body." So tells us section 213(d)(1)(A) of the Internal Revenue Code. The regulations under section 213, specifically, Regs. section 1.213-1(e)(1)(ii), provide that deductible medical expenses are "confined strictly to expenses incurred primarily for the prevention of alleviation of a physical or mental defect or illness." In Jacobs v. Comr., 62 T.C. 813 (1974), the Tax Court added a "but for" gloss to the requirements, and under that test the taxpayer must show "that the expenditures were an essential element of the treatment" and "that they would not have otherwise been incurred for nonmedical reasons." Onto this labyrinth of qualifying conditions Congress has layered yet another restriction, providing in section 213(d)(9) that the expenses of cosmetic surgery or similar procedures are nondeductible "unless the surgery or procedure is necessary to ameliorate a deformity arising from, or directly related to, a congenital abnormality, a personal injury resulting from an accident or trauma, or disfiguring disease."

The taxpayer, a physician arguing for himself, took that position that it was his civil right to reproduce, that he should have the freedom to choose the method of reproduction, and that it is sex discrimination to allow women but not men to choose how they will reproduce. Though acknowledging the lack of legal precedent afforded to private letter rulings, he cited PLR 200318017 for the proposition that "expenses for egg donor, medical and legal costs are deductible medical expenses." In turn, the government, represented by counsel, argued that although amounts paid for procedures to mitigate infertility may qualify as deductible medical expenses, the taxpayer "had no physical or mental defect or illness which prohibited him from procreating naturally," noting that he had done so with respect to his twin sons. The government also argued that the expenses were not for the purpose of affecting any structure or function of the taxpayer's "male body" and that "the procedures at issue only affected the structures or functions of the bodies of the unrelated surrogate mothers." Finally, the government made what the Tax Court called an "unexplained assertion," namely, that the government "does not believe that procreation is a covered function of [taxpayer's] male body within the meaning of section 213(d)(1)."

The Tax Court agreed with the government that the taxpayer's expenses were not for medical care because they were not incurred primarily for the prevention or alleviation of a physical or mental illness. It explained that accordingly, there was no need to answer the "lurking questions" as to whether and to what extent the cost of in vitro fertilization procedures and associated costs would be deductible if there were an underlying medical condition. The Court also concluded that the taxpayer's expenses did not affect a structure or function of his body. The Court distinguished PLR 200318017 on two grounds. First, the taxpayer in that ruling was unable to conceive a child using her own eggs after undergoing repeated assisted reproductive technology procedures. Second, the procedures undertaken by the taxpayer in that ruling affected her body because the fertilized donated eggs were implanted into her body.

In explaining its reasoning, the Court indirectly criticized the government's assertion that procreation is not a function of a male's body. Citing the government's own Rev. Rul. 73-201, 1973-1 C.B. 140, the Court noted that the IRS had ruled that the cost of a vasectomy is an eligible non-cosmetic medical expense because it affects the structure of the taxpayer's body, whereas the in vitro fertilization procedures in which the taxpayer had participated did not affect his bodily functions and structures because "they remained the same before and after those processes."

The Tax Court rejected the taxpayer's attempt to cast the deduction issue into a constitutional spotlight. The Court concluded that there were no constitutional dimensions to the case because under the circumstances, "it did not rise to that level." According to the Court, the taxpayer's "gender, marital status, and sexual orientation do not bear on whether he can deduct the expenses at issue." Even with current medical technology, human reproduction affects the female body far more than it does the male body, and thus, at least for the near future, expenses incurred with respect to women participating in medically assisted reproduction are far more likely to be deductible than those incurred by men. Perhaps the cost of surgery to extract male reproductive material that otherwise cannot be made available for the reproductive process in some traditional manner would be deductible, just as surgery to extract eggs is deductible. But in the more distant future, when the technology permitting men to carry children is ready for prime time, the likelihood of expenses incurred with respect to men participting in medically assisted reproduction will be no less likely to be deductible than will be the case for women. Lest one think this is rank speculation or the stuff of fantasy movie plots, Professor Lord Winston, one of in vitro fertilization's pioneers, said as much almost ten years ago.

So after someone correctly replies, "It depends," to the question of whether in vitro fertilization costs are deductible and is asked, "On what?" the answer should be that it depends on whether the procedure was undertaken on account of a medical illness or disease or, alternatively, affected the function or structure of the taxpayer's body (or the body of the taxpayer's spouse or dependent). And yet, that's only part of it. The answer also needs to include a qualification of the initial question. "Are we talking about HUMAN in vitro fertilization?" is a question that needs to be posed to the initial inquirer. Why? See Truskowsky v. Comr. (cost of in vitro fertilization of cattle treated as business expense).

Tax. It's not just about numbers. It's not just about computation. It's about life. There's just about nothing that it doesn't touch. If I were to say that tax is everywhere, I'd be treading far too close to a theological cliff edge. Not over, because tax is too flawed for me to assert that it is omnipotent. Or that its administration or practitioners are omniscient. And, surely we hope, tax is not eternal, and has no after-life.

The current tax debate in New York State is a textbook example of the tax policy issues implicated when a state determines that it must increase revenues as part of a plan to deal with a budget deficit. When cutting expenditures won't suffice, because doing so would terminate or significantly curtail critical state government functions, the only other viable alternative is to increase taxes. According to this CNN story, New York's governor has proposed 137 new or increased taxes, along with a variety of expenditure cuts. The proposal has triggered a not-unexpected debate over which taxes should be increased.

Under the proposal, taxes on beer, wine, non-diet soft drinks, certain fruit juices, and cigars would be increased. User fees and taxes on internet connections, taxi rides, massages, cable television, sports tickets, and movie tickets also would increase. The sales tax exemption on clothing sales under $110 would be repealed. The governor notes that by basing a significant portion of its revenues on taxes collected on Wall Street activities, the state took the risk that those receipts would shrink.

Opponents of these tax increases advocate an increase in the state income tax on taxpayers with high incomes. They argue that the governor's proposals will hurt lower and middle income taxpayers, encouraging many residents, for example, to travel to New Jersey to make purchases because the taxes in that state would be lower than they would be under the governor's proposal.

What justification is there for increasing the taxes and user fees that the governor seeks to increase? In some instances, considering the burden that these items or activities put on society, a user fee increase makes sense. The tax on non-diet soda, for example, which some are calling an "obesity tax," reflects a notion that the sugar in non-diet soda contributes to the health problems caused or aggravated by obesity. But as pointed out in this essay on the issue, there are a variety of foodstuffs that contribute to obesity and there is a lack of evidence that non-diet soda is any worse in this regard than other foods. To that reasoning I would add that even some low-calorie foods can contribute to obesity if they are consumed in large quantity. But as a practical matter, what alternatives exist to recoup the cost to society of bad dietary habits other than at the dietary source? Would it not be silly, if not outrageous, to impose taxes on people based on weekly weigh-ins? The fact that professional sports teams often impose fines on players who don't make weight ought not inspire people to use a similar approach in schools and offices. It's a tempting thought, though.

Has there been some sort of increase in the burden placed on society by people who purchase sports and movie tickets? Or by people who ride in taxicabs? It's probably easier to find justification for increasing the cost of cigars. And though the sales tax exemption for clothing under $110 appears to favor low-income individuals, it wouldn't surprise me to discover that taxpayers of all income levels find ways to take advantage of an exemption that perhaps ought not to have existed in the first place.

If increasing the taxes and fees in the manner proposed by the governor in fact shifts consumer transactions to other states, the net revenue gain from the proposed legislation might turn out to be far less than is anticipated. In the same vein, increasing state income taxes on upper income taxpayers might encourage some of them to shift their residences to other states with lower income taxes, similarly decreasing anticipated state revenues. This conundrum exists with respect to almost all state and local taxes and user fees.

Generally, the political process works to create some sort of balance among the various taxes and fees that are available to state and local governments. Ultimately, there's no guarantee that economic or social analysis will trump the emotions of voters and the re-election concerns of legislators. Students in a tax policy course learn that there are good arguments in favor of each particular type of tax, and good arguments opposing each particular type of tax. The ability to understand these arguments, to design the arguments, and to respond to these arguments is an essential ingredient of success in a tax policy course. What would be an interesting research project is an inquiry into the percentage of state and local legislators who have taken a tax policy course. Another interesting research endeavor would be an examination of how many citizens have studied tax policy to a degree that permits rational and careful analysis of tax proposals. Guesses could be made, and they could be very educated guesses, but they would be guesses. Sometimes, it seems, when legislators enact or increase taxes and user fees, they are guessing that it will work. Perhaps that's the best that can be expected.

One of the many practical points I try to get across to my students in Decedents' Estates and Trusts is that they will encounter clients who want them to make decisions that are not the attorney's decision to make. Though a well-educated and diligent attorney knows the law and understands how it works, an attorney cannot begin to frame a plan or to draft documents until the attorney knows what the client wants to do. Clients usually do not know what they want to do or if they think they know what they want to do, they're unaware of the many options open to them.

One way of dealing with this challenge is for the lawyer to become a teacher, and to explain to the client the many options and considerations that the client needs to take into account. In the process, the client will ask questions and seek clarification. This takes time. Attorneys charge for their time. This is one reason many people don't seek professional advice, because they cannot afford the cost or choose to spend their money in other ways. Now there is a solution to this conundrum, one that can make professional advice more readily affordable, reduce the number of people who fail to seek professional advice even though they need it, in other words, increase the number of potential clients, and make it easier for the attorney to ascertain what the client wants to do.

The solution comes in the form of the second edition of Don Silver's "A Parent's Guide to Wills & Trusts," a 250-page explanation of estate planning aimed not at the law student or lawyer, but at the client. It explains why estate planning matters, why wills and trusts are essential, what options are available, the advantages and disadvantages of those options, the traps and pitfalls that beset the careless, and the dangers in making assumptions about property distribution at death based on mis-information. Silver addresses not only basic legal principles but psychological and practical concerns that affect the decision-making process. For example, he explains that legally no one "owes" an inheritance to someone, but then points out how law is just one factor in deciding whether, and how, to limit or eliminate a bequest to a particular person.

The book consists chiefly of questions and answers. The questions are typical of those that a client might ask of an attorney. Silver covers wills, trusts, life insurance, retirement plans, bank accounts, taxes, health care, and every other topic that comes into play when dealing with estate planning. He considers not only the stereotypical situations, such as married couples with young children, and older people with children and grandchildren, but he also deals with domestic partnerships, divorced beneficiaries, second marriages, spouses who are not citizens, nonresident beneficiaries, co-ownership with friends, beneficiaries with special needs, and pets. He points out the events that might occur but of which clients might not be thinking when they try to sort out how they want their assets distributed when they die. He discusses the selection of guardians for minors, the possibilities of 18-year-olds coming into money, the dangers of not telling the attorney about the family member to whom the client wants to leave nothing, and the challenges of selecting executors and trustees.

Some of the points on which Silver focuses are identical to ones that I spotlight in my Decedents' Estates and Trusts course. My students, who at this stage are not all that different from the educated client who has not been to law school, often react with the same eye-opening astonishment as I'm sure Silver has seen with his clients. Surely the point that there is no one rule and no magic formula is a tough one for people, including law students, who think that law and legal practice consists solely of rules mechanically applied to situations facing the attorney or a court. How many people know that a will provision does not change the beneficiary designation in a life insurance contract? How many people understand that probate is a public process? How many people realize that even with a living trust, a person needs a will? How many people understand why funeral instructions should be in writing and why they ought not be stashed away in a safe deposit box? How many people think seriously about what happens to their email and online accounts when they die? As an aside, students who cannot deal appropriately with these issues are not going to earn a worthy grade in the course.

Though estate planning attorneys would learn nothing new from this book, that's precisely the point. The book is not designed to teach lawyers how to draft estate plans, nor is it designed to teach law students how to read statutes, identify legal issues, or counsel clients. But the book is for lawyers in one important respect. It's something that an estate planning lawyer should give serious consideration as a gift to clients and potential clients. An attorney could give the book to a client with a request that the client read the book and take into account what it says when sitting down to answer the questions that the attorney has presented to the client. Though some clients might not have the ability to do this, most clients are sufficiently educated and literate that they would use the information in the book to prepare themselves for their next meeting with the attorney. In the same way, people who do not think that they need a will, or who think that they can get along quite fine without an attorney, thank you, should benefit from reading this book, particularly the portions that explains why everyone needs a will, and almost everyone needs a trust.

None of this is surprising. After all, Don Silver is an attorney. He has dealt with clients and knows what sorts of obstacles present themselves to people who seek professional assistance in fashioning an estate plan. He knows the sorts of things that haven't even crossed the client's mind, and he knows the misleading information, which he nicely calls myths, which the clients bring with them into their meetings with the attorney. Silver's writing style reflects his experience dealing with people who, for the most part, are not lawyers. He avoids the technical, obtuse, and complex verbiage into which many lawyers sink, often because they erroneously think that lawyering requires writing in an impenetrable style. He writes as though he were transcribing conversations with his family members, friends, and clients, and I think that in certain respects that is what he in fact has done.

This is a book I highly recommend. I recommend it to attorneys to consider as something to give to clients and potential clients. I recommend it to people who are planning to meet with their estate planning attorneys and to people who are thinking about finding an attorney to help them with their estate plans. I recommend it to people who don't think they need a will or any estate planning advice because after reading this book, they will become people who are thinking about finding an attorney to help them with their estate plans.

To order, contact Adams-Hall Publishing or call 1-800-888-4452. A significant discount is in place through December 31, and a discount exists for quantity purchases, which should appeal to lawyers thinking about distributing copies to their clients. The book also makes a good, last-minute holiday gift for that person who has everything. What better way to get them started on their plans for doing something with that everything when the time comes. And more good news: even a single copy (aside from shipping and handling) falls into that "under $10" gift category.

Thanks to Paul Caron's TaxProf blog post, Did Double Tax on Corporate Income Contribute to Economic Meltdown?, I found myself exploring another side of the inevitable process by which people try to turn the current economic mess, or more specifically, proposed remedies, to their advantage. According to the posting, at a December 5 Brookings Institution Conference, called Memo to the President: Tax Reform's Challenges and Opportunities, former Assistant Secretary of the Treasury for Tax Policy, Pam Olson, characterized the double taxation of corporate income as having contributed to the current economic mess. Beginning at page 130 of the transcript of the Conference, Pam Olson explains how the double taxation of corporate income and the deductibility of interest on corporate debt encouraged corporations to borrow money, thus in some way causing distress in the credit markets. Though this theoretical proposition is attractive, the reality is that most of the explosion in corporate debt took place after the tax rate on dividends was reduced to the same special low rate applicable to capital gains, and after that rate was itself significantly reduced. Though one other expert agrees, others point out that many other factors encouraged the run-up in corporate debt. What makes no sense is how corporate double taxation has anything to do with the huge increases in the bad mortgage and other consumer loans that poisoned the credit markets.

What I think is happening is a reverse rerun of an argument that permeates almost every plea for special tax relief. When it comes time to make changes to the tax law, advocates of corporate income tax relief will argue that elimination of the corporate income tax is essential to restoring the health of the national economy, just as a long line of lobbyists have been moving through Treasury and Congressional offices making their case for a piece of the TARP or other pie, whether or not their clients fall within the scope of the industry for which TARP or some other program is designed to rescue.

When I teach the basic federal income tax course, I try to help students cope with the confusion that besets them when they discover that depreciation deductions are permitted for real property even if the property has not declined in value. I point out to them that this isn't the only tax provision favorable to the real estate industry. Students, so terribly insulated from the realities of political life as they move through 16 or more years of pre-law-school education, think I am joking when I tell them how lobbying works. It is not uncommon to insist that failure to grant a particular tax break will cause economic collapse. Usually, because the provisions are enacted and the economy hums along, there is no way of proving the negative, that is, that the economy would have collapsed without the provision in place. Now that the economy in fact has collapsed, it's time for the advocates of provisions not successfully advanced during previous lobbying efforts to return with claims that the absence of their pet provision was a factor in the current economic mess.

Don't get me wrong. I happen to favor corporate tax integration, but of the sort that most advocates would reject. Rather than allowing corporations to deduct dividends, I would prefer to see corporate income taxed to shareholders in the same manner S corporation income is taxed to S corporation shareholders. There are many strong arguments in favor of corporate tax integration, and even stronger ones in favor of the pass-through approach, but it hurts the cause, rather than helping it, to claim that the absence of corporate tax integration was or is a culprit in an economic fiasco fueled by fraud, greed, stupidity, miscalculation, and of course, the refusal to increase taxes and the absurd reduction in taxes at a time when trillions of dollars were expended or committed to fighting a war.

So we need to prepare ourselves for the onslaught of special case pleading. Here are some of the candidates, in predicted quotation format:

"The economic collapse is due in part to the lack of corporate tax integration, so to fix it Congress must enact corporate tax integration."

"The economic fiasco is due in part to the refusal of Congress to permit developers to claim immediate and full deductions for building even more shopping centers, so to clean up the mess Congress must enact an immediate deduction for amounts invested in shopping centers."

"The economic fiasco is due in part to the refusal of Congress to permit more favorable depreciation deductions for NASCAR facilities, so to, oh wait, sorry, Congress already enacted more favorable depreciation deductions for NASCAR facilities because it bought the argument that doing so would prevent economic collapse and, oh, gotta run, have a call coming in."

"The economic mess is due in part to the refusal of Congress to eliminate taxes on interest income, dividend income, capital gains income, and any other sort of income other than wages, so to fix the mess Congress should tax all wages at 80 percent so that the maximum amount of investment income can be steered into those excellent growth funds, you know, like the ones run by that Madoff guy."

"The economic collapse is due in part to the refusal of Congress to provide a tax credit for building sports stadia in cities and towns across America so that they can invite the Arena Football League to put new franchises in those locations, so to restore the economy and create jobs Congress should enact a tax credit for the construction of Arena Football League facilities."

But here's my favorite:

"The economic debacle is due in part to the refusal of Congress to provide a refundable tax credit of $50 billion per year to all law professors who write tax blogs the names of which begin with the letter M, have an upper-case A in the middle of the name, and end with the letter n, and that first appeared in 2004 because the law professors who so qualify know how to use refundable credits in a manner that is beneficial to the economy, and so to revive the national economy Congress should enact such a credit, making it retroactive to 2004."

Yeah, ok. Hurry and get in line before it gets too long.

Three months ago, in Risk Premiums with a Greed Tax?, I suggested that perhaps there should be a tax on greed. I proposed that "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." Recent news compels me to think about how such a tax would have affected the most recent fraudulent scheme presented by Wall Street.

In news that broke last week, an investment broker was arrested for defrauding customers with a $50 billion Ponzi scheme. Bernard Madoff was charged with securities fraud, for allegedly providing the guaranteed returns he promised his customers by obtaining money from other investors to pay off the earlier entrants into the arrangement. Even a 1 percent fee would have generated $500 million for Madoff. According to the complaint filed by the SEC, Madoff told his employees that his advising business was a fraud, that nothing was left, that it was "one big lie," and that it was a "giant Ponzi scheme." Yet Madoff did have about $200 million remaining which he tried to distributed to employees, family members, and friends of his choosing. Madoff served as president of NASDAQ during the early 1990s. Now he faces up to 20 years in jail and a $5 million fine. According to a CNN story, several European banks were victims of Madoff's machinations.

Madoff's attorney was quoted as saying, "Bernie Madoff is a longstanding leader in the financial services industry. He intends to fight to get through this unfortunate set of events." One question that crosses my mind is this. If Madoff succeeds in getting through these events, at what place does he arrive? Surely his career as an investment broker, as a financial advisor, as a Wall Street executive, is over. So, too, are the lives of those whose investments he squandered. A related question is whether he will find the opportunity to earn enough money to pay a $5 million fine. Yet another related question is whether anyone seriously thinks Madoff ever will find the means to reimburse his victims.

As a practical matter, it's too late for Madoff to find ways to restore the financial status of his customers as things were before he embarked on this money grab. The time to build a protective fund, or some sort of insurance, is during the period someone is engaging in risky financial behavior. All financial behavior is risky, but that risk varies from near-zero to astronomical, depending on the activity and the persons involved in the undertaking. Actuaries know how to evaluate risk, and surely they can tag different financial deals with appropriate risk characteristics. If a risk premium is charged on every financial transaction, then a fund exists that can be used to provide relief to those who, like the couple I saw interviewed on the television at the gym on Monday morning, have "lost everything."

The tougher question is whether a risk premium should be augmented with a tax on greed. In Risk Premiums with a Greed Tax?, I had this to say about 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."

How does one know whether greed is tainting a financial transaction? Was Madoff greedy? Or was Madoff someone who feared failure, and having put himself into a corner by making outlandish promises that he could not keep, proceed to act in desperation? Should those who deal with large amounts of money be subject to a different, more exacting, set of standards and treated as more likely to be caught up in greed? Should motive matter? Should the tax be expanded from one imposed on greed to one imposed on greed, carelessness, stupidity, and over-reaching? Or should the risk premium, whether or not in the form of a tax, be determined by actuaries who take greed, carelessness, stupidity, and other factors into account? Are actuaries capable of doing that? Simply because the broker or investment banker can point to degrees earned from prestigious educational institutions does not mean that he or she is free of carelessness or even greed? Is there a track record that can be considered? What sort of risk factor would an actuary have pegged on Bernie Madoff before this news broke?

If industry and government, and society in general, cannot develop workable answers to these questions, the continuing parade of news stories of this sort will do nothing to restore the trust that needs to exist in order for the economy to resume some semblance of productive operation. In a time when people don't know each other the way they did when they grew up together in the same small town, something is required that creates the assurances once more easily obtained in a less inter-connected world. I doubt that a tax or user fee can renew that trust, but it can build a financial cushion, a financial cushion that might help people scale back their fear of dealing in a crumbling economy.

Last week someone brought to my attention advice being given by Charles Schwab to the effect that one should "prepay" state estimated income taxes due in January by sending the check in December 2008 rather than in January 2009. The same advice has poppped up on many web sites, including Renaissance Tax and Business Service, Joe Kristan's Tax Update Blog, and MDManagement Planners. Joe's site includes a chart that taxpayers can use to help themselves decide if this advice makes sense in their case. Take a look.

Unless the AMT causes this to backfire, or unless the taxpayer is in a very low tax bracket in 2008 and expects to be in a very high tax bracket in 2009, this advice makes sense because it accelerates into 2008 the reduction in federal income tax liability caused by the state income tax payment. Technically, one is not pre-paying the state income tax, because the payment is with respect to 2008, and there is nothing in any state's income tax law requiring that the payment be made after December 31, 2008. The practical challenge is the increased difficulty of estimating state income tax liability in December, when the taxpayer does not necessarily have all the information one needs to make that determination. Yet this concern is deceptive, because it is unlikely that when the January 2009 due date for the state estimated income tax payment arrives the taxpayer will have the necessary information. For example, consider the Schedules K-1 due from partnerships, LLCs, and S corporations, which often bring those amazing April (or later) surprises.

Someone asked if the same outcome would be reached if the taxpayer made payments in December 2008 of his or her 2009 estimated state income tax liability. I think that is very risky, and suggested that the taxpayer simply increase the amount of the final estimated state income tax liability payment for 2008 being made in December 2008. My argument is as follows. The December 2008 payment is an estimate, and it is difficult to know with any degree of precision what will end up being the actual 2008 liability. Any state overpayment will end up being available as a credit for the 2009 liability, so the taxpayer will end up in the same place as if a December 2008 payment were tagged as a payment towards 2009 state income taxes. I then got myself into a bit of trouble with an additional bit of reasoning. I noted that the IRS enjoys dealing with people who over-estimate federal income tax liability because those overpayments are interest-free loans to the government. Do people do that? Yes, there are people that do so, particularly folks who have what I will call a hyper-cautious personality. Thus, I asked, would it not be inconsistent for the IRS to object when the same taxpayer is as cautious with state income tax liabilities?

Well, apparently the IRS is a bit touchy about taxpayers who make state estimated income tax payments that are too high. Someone kindly pointed me in the direction of a revenue ruling and a case. In Rev. Rul. 82-208, 1982-2 C.B. 58, the IRS concluded that no deduction would be permitted in year 1 for estimated tax payments for year 1 that were unreasonably too high for year 1. The ruling involved a taxpayer whose income was salary and for which state income tax withholding was sufficient. Clearly the taxpayer was paying a high estimated state income tax in year 1 in order to benefit from the deduction, even though the payments would either be refunded or credited by the state towards the taxpayer's year 2 state income tax liability. On the other hand, in Estate of Cohen v. Comr., T.C. Memo 1970-272, the court rejected the IRS attempt to deny a deduction for high estimated state income tax payments made in year 1 towards year 1 state income tax liabilities because the taxpayer understood that some or many of the income tax deductions taken on the return might be challenged, and if the challenges were successful, state income tax liability would be increased. The taxpayer made high state estimated income tax payment to cover this possibility. Another reason that a taxpayer would take this approach is the one I've already mentioned, namely, the arrival in April of year 2, or later, of Schedules K-1 reporting far more income for year 1 than was expected, often far more income than the partnership's or other entity's tax advisor estimated when contacted by the taxpayer. Absent precautionary payments of state income tax in year 1, the taxpayer ends up having to pay year 1 state income taxes in year 2, incurring interest and perhaps penalties, and obtaining the federal income tax benefit of the deduction for those payments not in year 1 but in year 2. It's the worst of all possible tax worlds. Well, maybe not the worst, but quite unpleasant.

The most important point is that sometime between now and the end of the year, taxpayers and their advisors need to be thinking about these, and other, issues. No matter what the taxpayer decides to do, the worst thing is to ignore the issue only to discover next year that there was something that should have been done before December 31 of this year. This is one reason why, when people claim that early April is the busy time for tax advisors, I disagree, explaining that December often offers the final chance to get some tax things timed correctly. Only 16 tax planning days left in 2008. Use them well.

Thanks to Paul Caron's TaxProf blog post, I have learned of a proposed user fee for animal-caused air pollution. According to Proposed fee on smelly cows, hogs angers farmers, the EPA has issued proposed rules that would require farmers to pay a fee for the gases emitted by farm animals through belching and flatulence. The so-called "cow tax" would not be limited to cows, but in a gesture of equality, would apply to hogs, and according to some, to chickens and other livestock. I suppose sheep and goats would be in the mix.

Most of the reports alerting people to this proposal state something along the lines of what was written here: "This proposal comes hot on the heels of a U.S. Supreme Court decision declaring that 'greenhouse gasses emitted by belching and flatulence amounts to air pollution.'" With that quotation from the Supreme Court at hand, I ran some searches but could not find it in the text of Supreme Court opinions. What I did find was a 2007 Supreme Court decision, Massachusetts v. EPA, 549 U.S. 497 (2007), in which the court rejected a statutory interpretation that would treat "everything airborne, from Frisbees to flatulence" as an "air pollutant." The Court then noted that such a conclusion would be one that "defies common sense."

Though numerous other stories and articles are reporting the same news, just as I cannot trace the Supreme Court quotation to a Supreme Court decision, I also cannot find an EPA issuance that sets forth the proposal. According to a CBS News report, the EPA denies having made a proposal to tax livestock. It seems that last Friday the EPA issued a technical report on the causes of pollution, and someone who read it concluded that it included the so-called cow tax. The American Farm Bureau Federation claimed that the tax would affect farms with "more than 25 dairy cows, 50 beef cattle or 200 hogs to pay an annual fee of about $175 for each dairy cow, $87.50 per head of beef cattle and $20 for each hog." Though I've looked for the report on the EPA's web site, the American Farm Bureau Federation's web site, and other sources, I've come up empty. I wonder why none of the stories reporting the proposed tax includes a link to the report. Another version of the proposal is a fee on farming operations that generate more than 100 tons of carbon emissions annually, though carbon can be emitted from all sorts of farm activities, such tractors, furnaces, brush burning, and a variety of other air polluting processes.

Assuming that there is such a proposal from the EPA, it isn't difficult to imagine the nonsense that would turn it into something that makes the income tax law seem simple. Would there be credits for expenditures undertaken to reduce the emission of hot air by livestock? Would this tax law spark investment in a "Bovine Beano" production facility for which a credit or deduction would be allowable? Surely there would be rules determining whether farms would be combined for purposes of counting the number of each animal, else the savvy farmer would divide the animals into mini-farms of 20 dairy cows, 48 beef cattle, or 198 hogs. Why those numbers? Well, what happens when the cows and hogs produce the next generation? And when it comes to counting, would the tax be apportioned in some convoluted way if the number of animals on the farm fluctuated during the year from a number below the minimum to a number above the minimum? Would the tax be considered a property tax, raising uniformity clause issues? Or would it be a transaction tax, measured by some presumed number of annual hot air emissions by each type of animal?

Whether or not there is such a proposal from the EPA, it surely has generated some fun commentary. I've tried to be elegant, using phrases such as "hot air" and "emissions." But my attempt to be polite doesn’t deter me from sending my readers to the comment sections at TaxProf Blog's report, or from suggesting they check out this news item from EcoGeek. Next time someone calls you a windbag, try not to remember what you saw here.

When analyzing an idea, it helps to ascertain if anyone else has previously explored the concept. So, has such a proposal ever been made elsewhere? Yes, according to this report, in New Zealand. About five years ago. And perhaps that tax encouraged the research results reported in this article a few months ago. As I tell my students, tax is everywhere, tax affects everything, tax invades every aspect of life, tax is cosmic. But don't get carried away. Tax is not divine.

So, eventually, the entire discussion may or may not end up as nothing more than hot air. But the commentary flooding the web demonstrates that it doesn't take much to get people to raise a stink about an issue. Especially one that has the word "tax" connected to it.

Well, folks, here it is. Post number 1,000. Who would have thought, almost five years ago, that MauledAgain would be around for 1,000 posts? Not me. When I started MauledAgain, I had no idea what would happen. I guessed that I would enjoy blogging. I guessed that people would read what I wrote. But I would never have predicted, in February of 2004, that near the end of 2008 MauledAgain would still be around.

A quick analysis of the posts indicates that the average word count per post is roughly 1,000. That means I've penned, no, I've keyboarded one million words, give or take a thousand or so. And the same analysis suggests that my words average five characters each. I must use "to," "and," "the," and similar words quite a lot, to make up for all of those lengthy tax-related words. Five million pressings of a key? No, far more, because I have backspaced more than once, I've written and deleted thousands of sentences and tens of thousands of words. Too bad the blogosphere doesn't pay by the word or character. Seriously, I'd rather be "paid" by the citations of, and links to, MauledAgain.

What I haven't done is to analyze all 1,000 posts in order to classify them by subject. I think it is a good guess to conclude that at least two-thirds involve tax, in one way or another. Legal education surely comes in a distant second. Somehow chocolate didn't get quite the same amount of attention. At least not on the blog. I think chocolate prefers a different sort of attention.

Before I end this relatively short post, thanks to Mark Sargent, the Dean of the Villanova University School of Law, whose immortal words, "What? You don't have a blog? Of all people …." set things in motion. How could I not have a blog? Thanks to those who have encouraged me to continue writing, and thos who have been gracious in naming or nominating MauledAgain for an award. Thanks, also, to all of those who have taken time to read the blog, to those who have sent comments, offered suggestions, and provided material, and special thanks to all of those who, having read the blog, came back for more.

And more there should be. That's in my plans.

The chief executive of a major home builder, Toll Brothers, Inc., has suggested that the government's proposal to guarantee mortgage-backed securities not only should be pursued but should be accompanied by a $20,000 federal income tax credit for persons who purchase a home. According to this Philadelphia Inquirer story, Robert I. Toll explained that the guarantee would reduce mortgage rates to 4.5%, a rate that would make homes more affordable. Presumably, if homes are more affordable, more will be sold, and the housing market would regain some of its vitality. Justification for the proposed tax credit rests on Toll's theory that it is better to "overprime" rather than "underprime" the economic pump.

It makes sense to question whether a tax credit solves the problem, and to question what happens when such a credit, if enacted, expires, as it is highly unlikely that even if enacted, a homebuyer credit would be permanent and eternal. Toll did mention, in his comments, that there exists a "pervading lack of confidence" in the market. The question is whether a tax credit would restore that confidence. My suggestion is that it would not.

Toll is correct that lack of confidence is a significant factor in the troubles afflicting the economy. It's no wonder people lack confidence. Once upon a time, a town's banker could be trusted. Now one deals with an unidentified person in some remote institution, hiding behind an automated telephone system and an unresponsive web page. Once upon a time, a person could trust investment brokers, financiers, and regulators. Now the financial markets are flooded with toxic financial instruments, in which bad assets are hidden inside good ones, products of manipulation by schemers who have made their money, stashed it offshore, and purchased tickets to some hideaway. Once upon a time, business entrepreneurs either did their job well and prospered, or demonstrated incompetence and went under. Now people are being asked to bear the burden of others' mismanagement. Finally, the wrappings have fallen off the postmodern financial culture, and what one sees isn't going to instill confidence. The charade is over, people are frightened, and the economy is spinning out of control. People who stop and think for a moment understand that it's not possible to bail out every failure, every product of incompetence, and every consequence of fraud.

Why do I think that a $20,000 tax credit won't make much of a difference? First, consider the impact of the recently enacted $7,500 homebuyer credit, which I described and criticized in Yet Another Questionable New Tax Provision. Ill-advised for many reasons, it isn't working, and more than doubling the amount and removing the recapture provision amounts to something akin to banging one's head against the wall even more forcefully. Second, an income tax credit won't change the minds of people who can afford to purchase a home but are refraining from doing so because of the uncertain future they, and the rest of us, face. Third, an income tax credit won't make a home affordable for those who cannot afford a home even if the required cash outlay is reduced by $20,000 because people who cannot afford monthly payments, including the increasing number of people without jobs, are less likely to walk into a home they cannot afford than they were two or three years ago, because they've learned some lessons about living beyond one's means. The number of people for whom $20,000 makes the difference between affordable and unaffordable are too few to make a difference, and even many of them would refrain from making a purchase, even if it became affordable, for the same reason people who can afford to purchase a home without the credit are holding back. Fourth, offering a tax credit to encourage home purchases doesn't address the problem, but at best alleviates some portion of a symptom. The problem with the economy isn't the lack of home sales.

What would make a difference is something that deals with the underlying problem, and that means crafting a solution that addresses the underlying cause of the economic turmoil. Assuming that the tax law is the appropriate vehicle with which to tackle the problem is itself a dubious proposition. As I noted three years ago in More on Skyrocketing Housing Prices, "Considering the government's track record using the tax code to "step in" the ideal of using the tax code to tinker with the housing market is alarming." But even if the tax law is to be used to deal with the crisis, ought it not be used to get to the root of the problem? The problem isn't unemployment, reduced housing sales, failing automakers, or credit squeezes. The problem is confidence. The problem is lack of trust on the part of the typical citizen in the machinery of the marketplace and the absence or ineffectiveness of regulatory mechanisms. People now understand that the free market isn't free, except to the extent some people thought it meant they were free to abuse, manipulate, distort, and undermine the market. Perhaps tax credits should be offered to those who produce evidence of how the markets were damaged, information on who did things that contributed to the deceit and mismanagement, and leads to finding the money that has been squirreled away in places hidden from the eyes of tax authorities, supervisory agencies, and victims of the games that people played with other people's money and lives. I'm not convinced that such credits would necessarily or alone restore confidence, but I'm convinced that such credits stand a better chance of doing so that simply throwing more money into the bottomless pit of citizen anxiety. I'm not ready to put faith into tax credits the way others do, and I'm not yet ready to give credit to tax credits.