MauledAgain

First it was Timothy Geithner, nominated to be Secretary of the Treasury. Next, it was Tom Daschle, nominated to be Secretary of Health and Human Services. It turns out both have filed federal income tax returns beset by major errors. Technically, they are not the first and second nominees for a federal office to have a tax problem. Almost fifteen years ago, Zoe Baird's nomination to be Attorney General was withdrawn after it was disclosed that she had failed to pay social security taxes on wages paid to household workers. I'll let someone else catalog the parade of nominees whose returns contained significant deficiencies.

Mr. Geithner failed to report income earned while employed by the International Monetary Fund. Mr. Daschle failed to report as income his use of an automobile and chauffeur, along with $80,000 of consulting fees that he received after his Senate term expired. These aren't the most basic of tax issues, but neither are they the complex challenges of partnership taxation, section 280A dwelling unit deduction limitations, or the computational nightmare of section 1 or section 86. In Daschle's case it appears that his return reflected what was reported on Form 1099 but the issuer of the form erroneously understated the income by $80,000.

Mr. Geithner apologized, and said he had made "careless but unintentional mistakes." Mr. Daschle also apologized, and said, "My mistakes were unintentional." Mr. Geithner further explained that he had used Turbotax, but as noted in this commentary, tax preparation software is only as good as the information entered into it. I haven't been able to discover any confirmation that Daschle used Turbotax, but as there are references to "his accountant" the best guess is that he did not.

Are they "deadbeats" as contended in this commentary? Only if the evidence demonstrates that they knew they had gross income to report and deliberatly and wilfully failed to do so. In that case they should be barred from office, and prosecuted for tax fraud.

Were they negligent? Yes. Should they have asked for help? Perhaps they did, and perhaps Geithner figured that using Turbotax was the equivalent of getting help from a tax professional. Daschle apparently had professional assistance.

Should they be barred from office because they don't know how to do their tax returns? The better question is whether everyone who makes mistakes on a tax return should be denied employment. That's a harsh result and it highlights the deeper problem. Daschle has since withdrawn from consideration.

Though these nominees have a problem, and perhaps problems that they should have prevented, their issues are much more a symptom for the nation. The tax law is so complicated that it's too easy to make a mistake. The opportunities for error multiply exponentially as provision after provision are inserted into the tax law. The rules applicable to employees of the International Money Fund are not as simple as some seem to have reported. Whether Daschle's use of a vehicle provided by a friend constitutes gross income depends on the facts and circumstances. This isn't to minimize or excuse their tax filing problems, but to point out that the true problem is the tax law and that noncompliance arising from negligence and ignorance is a symptom.

Over the years, I have suggested that members of Congress be required to do their own tax returns. My rationale is that if these folks were compelled to suffer through what other taxpayers must endure they might think twice before using the tax law to accomplish what ought to be handled by the Department of Energy, the Department of Commerce, the Department of Education, and a long list of other agencies that somehow cannot achieve their objectives without assistance from the Internal Revenue Service. Until now I haven't embellished my suggestion, but perhaps it makes sense to explain that after members of Congress prepare their returns, they would be examined by tax professionals before they were filed. Otherwise, there's too high a risk that all or nearly all of the returns would be wrong. I don't think I'd permit them to use tax return preparation software, because I don't want them to have a scapegoat for their return preparation inadequacies.

The present course of action, fixing the mistakes and giving apologies, is insufficient. These incidents are a warning sign to the Congress. They are the tip of a huge noncompliance iceberg that extends far beyond the world of tax fraud, tax shelters, and tax gimmicks. They illustrate the extent to which tax compliance is falling short. They serendipitously indicate why the Congress must avoid loading more tax junk into the pending legislation. Otherwise tax compliance will become a game of "if they catch me, I'll pay and apologize" played in a context of "it's unlikely they'll catch me." Tax compliance, and the fiscal integrity of the nation, will be reduced to this sort of nonsense. Already, one well-known tax fraud defendant has raised what is now being called the Geithner defense. There will be more. Many more.

Until these incidents of tax noncompliance are seen as symptoms rather than as isolated problems, the underlying tax law disease that is stifling the nation will spread. Until the Congress determines to stop jeopardizing the integrity of the tax law by using it for political purposes, the economic malaise that pervades the nation will deteriorate into much worse.

According to this CNN Report, Rudy Giuliani, former mayor of New York City and one-time Presidential candidate, has explained that huge corporate bonuses are good for the city and the economy. Giuliani's theory is that if the bonuses aren't paid, "it really will create unemployment." He adds, " It means less spending in restaurants, less spending in department stores, so everything has an impact." Giuliani explained, "I remember when I was mayor, one of the ways in which you determine New York City's budget, tax revenue is Wall Street bonuses. Wall Street has $1 billion, $2 billion in bonuses, the city had a deficit. Wall Street has $15 billion to $20 billion, New York City had a $2 billion, $3 billion surplus, and it's because that money gets spent. That money goes directly into the economy. First of all, it gets taxed as income. Secondly, it gets taxed again when somebody buys something with it."

So let me see if I understand this. Someone earning $800,000 discovers that an expected $1,000,000 bonus is not forthcoming. Does this person stop eating meals? Does this person stop buying clothes? I doubt it. To this extent, Giuliani is overstating his case and trying too hard to defend bloated compensation. Does New York City's tax revenue go down? Yes, because it's not collecting an income tax on the unpaid $1,000,000. To that extent, Giuliani is correct, but he doesn't follow through with the analysis.

The employer has a choice between paying $1,000,000 as a bonus, paying it as 10 $100,000 salaries for 10 employees who otherwise would not have jobs, or retaining it and adding it to the employer's own income. Under which scenario is the bonus most likely to be spent? The 10 employees have no choice to spend their salaries in order to survive. The highly-compensated employee and the employer most likely would have stashed the $1,000,000 somewhere, principally in an effort to reduce taxes and to maximize capital. If Guiliani wants spending in restaurants and department stores to rebound, see to it that there are fewer unemployed people, even if that comes at the expense of reducing someone's salary from $1,800,000 to $800,000.

The "trickle down" theory that underlies the defense of excessively high compensation has been proven to be a failure. It doesn't work. Otherwise, in theory, the employer should pay $50,000,000 to one employee and fire the rest of the employees. No one has demonstrated that the highly compensated employee makes better or wiser spending choices or does a better job stashing away the excess income. As for the use of the phrase "excessively high" compensation, remember that the folks getting these bonuses are the folks who engineered the economic calamity that continues to erode away the lives, health, and dignity of far too many Americans.

Giuliani is correct that New York City tax revenues decline if the bonus is not paid. His statement suggests that the revenue loss equals the bonus multipled by the employee' marginal rate, presumably the highest applicable rate. But pushing the analysis further suggests that this is not the case. If the $1,000,000 is used to hire 10 employees who would otherwise be unemployed, there will be taxes paid by each of those employees, though not as much in the aggregate as would be paid by the bonus recipient. That revenue loss to the city would be offset by the removal from the city's list of expenditures the costs of extending to 10 unemployed individuals the benefits of the various programs put in place to assist the unemployed. The city is better off with one person earning $800,000 and 10 people earning $100,000 than it is with one person earning $1,800,000.

If the employer is in some manner compelled to refrain from paying the bonus, whether for public relations purposes or through this sort of legislative cap on compensation, and determines not to hire anyone, then the employer would have more income subject to taxation. There could be a slight revenue loss or gain for the city, depending on the relative marginal rates of the would-be bonus recipient and the employer, but the city would still need to fund the various safety net programs maintained for the unemployed, including the ten individuals not hired by the employer. The question remains, what is the employer going to do with the $1,000,000, net of taxes, not paid as a bonus? Perhaps it will spend it. Does that not solve Giuliani's concern about bonus non-payment causing reductions in spending at restaurants and other enterprises? Perhaps the employer will lend the money, directly or through making a worthwhile investment, that finances a new business or continued existence of a currently operating business, thus maintaining spending and other economic activity? Or perhaps the employer will shuttled the money overseas.

Giuliani is correct that when Wall Street compensation falls, it likely indicates budget problems for the city. But is that a consequence of less compensation to tax? No. Falling compensation on Wall Street means that Wall Street is generating less income, and that means it is quite likely that the entire economy has slowed. That means there is less economic activity throughout the city, and thus fewer salaries to tax and less spending to generate city revenue. Yet if Wall Street is stumbling and the economy is stalling, why are people getting bonuses? Are they being paid for having done a good job taking Wall Street to unprecedented heights of economic accomplishment?

There are two ways that Wall Street compensation can end up in the fiscal ranges that Giuliani cites as indicative of a healthy New York City budget. One is a few people being paid huge bonuses. Another is a significant increase in the number of people who are employed. The first generates slightly higher tax revenue but even higher social welfare and unemployment safety net costs. The second generates slightly lower tax revenue but even lower social welfare and unemployment safety net costs. The city, and its administrators and legislators, ought to favor the second alternative. And in that event, unlike Giuliani, they ought not be critcizing the critics of the bonus payments. They should be joining in the outrage that payment of those bonuses is a misdirected use of money. If the critics of how Wall Street, the investment bankers, and the other financial manipulators did business succeed in cleaning up the greed culture that sold itself with false promises of "trickle down," New York City will be no less a beneficiary than will be the rest of the nation and its citizens. And then perhaps the critics of the critics of the critics of the bonus payments will not have written in vain.

As the stimulus package works its way through Congress, the debate is shaping up as one that pits spending against tax cuts. Democrats claim the package will create jobs and get the economy rolling along. Their position is that spending is a better way of reaching those goals than are tax cuts. In contrast, the House Minority Leader, according to this report, claims that the proposal "has a lot of wasteful provisions and slow-moving spending in it" and that "we think that fast-acting tax relief is the way to get it done."

There are two issues in the debate, but it's unclear that Congress recognizes them as such. The one getting the attention is whether tax cuts or spending works more quickly to spur economic recovery. The other one is whether economic restoration is best accomplished by rushing or by taking a moment to think. Even in the emergency room, it is essential to think before acting. Acting quickly can be fatal if the action is the wrong choice.

The proposed legislation, having the nature of a compromise, is riddled with flaws. Not only are there specific provisions that are flawed, there also are flaws in the package as it has emerged. Mixing tax cuts with spending provisions might be a good hedge when Congress cannot agree on which approach is the best, but by dividing the resources, assuming money borrowed from abroad can be considered a resource, between two approaches might cause both approaches to fail because both end up being underfunded.

Should resources be devoted to extending the home purchase credit so that it's no longer in effect a loan but a grant? Over at Tax Almanac, Death&Taxes noted, in Mule Chasing Tail Department, that Congress is forging ahead "without anyone in either Congress or the real estate industry saying, 'guess what, that one we passed last year didn't work.' What's coming next? 40 Acres and a Mule?" Well, guess what? No one in Congress seems to have bothered holding hearings in order to find out what is working and what isn't working. Why there have been no hearings, or should I say, public hearings, is an interesting question, but I digress.

The same problem arises with the proposal to extend and broaden bonus depreciation and first-year expensing. As I pointed out in Just Because It Didn't Work the First 50 Times Doesn't Mean It Will Work Next Time, no one has demonstrated that increasing deductions for capital expenditures will create jobs or stimulate the economy. Let's think about it. Businesses without money cannot make the expenditures that generate the deduction, nor can they borrow the money, so the provision is useless for them. Should there be some incentive to compel the lending industry to lend money? Surely they are doing something with the hundreds of billions dished out under the TARP program. Even if businesses with available cash make more capital purchases than they otherwise would have made, how does this create jobs if the item being purchases was manufactured abroad? Oh, it creates jobs overseas. How does that help?

One of the comments I received in response to Just Because It Didn't Work the First 50 Times Doesn't Mean It Will Work Next Time caused me to wonder, Instead of More Favorable Depreciation Deductions, Eliminate Them? As I pointed out in Abolish Real Estate Depreciation Deduction? An Idea Gathers Attention, that idea has generated discussion, even beyond what I reported several days ago in that post.

Wayne Silverman responded to my idea of using a national real estate index to peg, in effect, real estate mark to market by noting that while he liked the idea, he was "afraid that it would get re-jiggered like CPI and be useless." He suggested using aggregate regional numbers similar to those kept by the NAR, and then working that over some useful life. I explained that no matter who does the appraisal, no matter its regional, local, or national nature, and no matter how it is done, the output is an estimated. It might be a good one, and it might not be. Even values based on selling prices are warped, in part because there often are other considerations not showing up (e.g., price includes furnishings, sale was to a friend or relative and thus at the lower end of the fmv range, etc.) and the numbers lag some weeks behind reality as reporting takes time. Perhaps months, if data collectors are waiting for deeds to be recorded. I also am not proposing dividing anything if there were such a system. It would be a comparison between the Jan 1 value and the Dec 31 value, and taxpayers could elect to do nothing, or, if they want to deduct declines in value, they must agree to be taxed on increases in value. Over the long haul, because prices tend to rise, I suspect most taxpayers would elect to do nothing, that is, give up depreciation because the gross income is too high a price for the occasional deduction. There would need to be a decision about transition. Should a value-changed system permit the grandfathering of existing owners, in turn creating a need for an antichurning provision? Should the system starting fresh with values as of a particular date? Should the system start fresh with adjusted basis as of that date? That approach would generate huge amounts of tax liabilities at the end of the system's first year. Wayne noted that the devil is in the details. Indeed. But the point is that someone needs to think about the provisions being rushed through. Bonus depreciation and first-year expensing ought not get express lane treatment just because they were tried. No one has demonstrated that they work. Would the changes I have tossed about work? I don't know. Why not leave depreciation alone, as it is, until its impact on the economy can be studied. If excess depreciation is a contributing factor to the current economic mess, the existing stimulus proposal pretty much is not unlike a medieval physician who prescribed "bleeding" as the cure for someone bleeding to death.

The tax cut advocates are so glued to a disproven technique that they cannot bring themselves to comprehend the reality. Years of tax cuts have made the economy worse, not better. How does a tax cut help someone without a job? I suppose the answer is that tax cuts mean employed individuals can spend more than they are now spending, which would generate business so that entrepreneurs and companies will hire. But there is a huge fallacy in that assumption. Wasn't there a rebate, oops, economic stimulus payment not very long ago? Big help that was. People won't spend the increase in take-home pay because they lack confidence. They will save the money, perhaps in banks and perhaps in a jar buried in the back yard. And the banks won't lend the money, because they're not lending the money that they have. For all we know, some of the tax cut money would be invested overseas.

What will work is spending that creates jobs. Is this sort of spending slow-moving? Not knowing what spending speed limits are, I can only suggest that money designated to pay people to do work will find its way into productive economic use more quickly than tax cuts put into banks by employed individuals lacking confidence in the economy. If the people who are paid to do work are currently unemployed, they will be compelled to spend the money flowing into their hands, because they need to eat, they need a place to sleep, they need food, etc. There are millions of people who are unemployed, and getting money into their hands is much more important than getting money into the hands of people with jobs. It's called triage. Of course, there may be a mismatch between the jobs for which the government would be providing funding and the skills of the unemployed. Our nation needs people who can repair and build infrastructure like roads, bridges, and electrical grids. We need construction workers to renovate dilapidated schools. We need health care workers, including physicians, nurses, and hospice attendants. Unfortunately, we don't need some of the skills held by some of the folks who have lost their jobs. The adjustment from one career to another is painful, and no matter how the government provides economic stimulus, whether tax cut or spending, the transition of the economy from one misbalanced in favor of services back to one that has the nation building itself and manufacturing things that people abroad are willing to purchase will be painful. Surely getting people abroad sending their money for items manufactured and services rendered in this country, rather than as loans that need to be repaid, will help in restoring some sense of economic stability.

The problem with tax cuts is that they are financed by debt burdening our descendants but they end up either stagnating in a bank or funding consumption of resources. In contrast, spending money on schools, bridges, electrical grids, renewable energy facilities, and the like, at least transfers to our descendants not only the debt, but some assets that counter-balance the debt. It's the difference between borrowing from an adult child to build an addition to the family home and borrowing from an adult child to finance an early retirement filled with golf. No, I didn't make that up. You can read that in this Ask Amy column.

Unfortunately, the stimulus proposal is zooming along some sort of legislative process that omits hearing and dutiful deliberation. Like the bandwagon of a team warming up as the season comes to an end, all sorts of people waiting in the wings with their pet proposals jumped aboard without anyone checking for their sincerity, loyalty, knowledge, or utility. Ironically, some of the provisions were inserted to get votes that aren't going to be forthcoming. Sometimes a child who asks for 10 chocolate chip cookies and who is wisely given two will be happy, but sometimes children get angry and throw back the two cookies because they fail to remember that the last time they were given the 10 cookies they ended up with an upset stomach. That is what some people, including myself, might experience as this legislative mish-mash follows the TARP Express down the track to what very well could be a collapsed railroad bridge. Here's hoping that the sensible spending provisions are sufficiently funded, and aren't negated by the tax cut nonsense in the legislation.

It's fun watching, and reading, how a dialogue can develop, through the use of blogs, when an idea is set out for comments and reactions. In Just Because It Didn't Work the First 50 Times Doesn't Mean It Will Work Next Time, I criticized the current legislative proposal to extend and expand bonus depreciation and first-year expensing. Within hours, Bob Flach, the Wandering Tax Pro, reacted, pointing my attention to Here is Something to Think About, in which he proposes eliminating the depreciation deduction for real estate. I took up that aspect of the issue in Instead of More Favorable Depreciation Deductions, Eliminate Them?. Then Goose the Tax Dog, a/k/a Your Fearless Blogger, considered the proposal in Real Estate Depreciation, and suggested tying the depreciation deduction to changes in the valuation of real property for state and local real property tax purposes. Bob then picked up on these exchanges in What's the Buzz? Tell Me What's A Happenin'. Joe Kristan, over at TaxUpdate blog, picked up on the original concept in Party Like It's 2002.

In a theoretical sense, tying depreciation to state and local real property tax assessments makes sense. It would restrict real estate depreciation to instances in which the property's value actually declined. The proposal rests on the presumption that real property tax assessments reflect value. As I noted in my comment to in Real Estate Depreciation, real property tax assessments rarely reflect value. In Pennsylvania, for example, properties aren't assessed at fair market value, assessments are done sporadically, state laws designed to generate uniform and current valuation fail to work, judicial decisions send messages that aren't heard, and efforts are underway to eliminate the property tax because its administration is so problematic.* So when the theory is transported into the practice world, it breaks apart. Perhaps it can be salvaged by creating a system that denies depreciation deductions unless the taxpayer demonstrates that the property has declined in value. Would this encourage appraisers to come in with absurdly low values? Because the best proof of value is an arms' length sale to a third party, would the deduction be postponed until the taxpayer disposed of the property? Such an outcome would be equivalent to repealing the depreciation deduction for real estate. Here's another idea. Could the deduction be tied to a national index for the type of property involved? If data shows that the average selling price of office buildings declined by 2% during a particular year, owners of depreciable real estate would be permitted to deduct an amount equal to 2% of adjusted basis. The deduction would not be 2% of value because the taxpayer has not been required to include increases in value in gross income. Perhaps the price to be paid for this revised depreciation deduction is the symmetrical requirement that gross income be increased by 4% of value if the average selling price of office buildings increased by 4% during a particular year. If this were required, the deduction would reflect a percentage based on value and not basis. Even with the current declines in real property values, I doubt property owners would support this arrangement, because in most years there would be gross income and not a depreciation deduction.

As the debate over an economic recovery stimulus package continues, the idea of eliminating a deduction that is inconsistent with economic reality may find more advocates. Tax breaks ought not be extended to those who don't need them. Casualty loss deductions don't exist for taxpayers who have not endured casualties, trade or business deductions are not allowed to taxpayers who are not carrying on a trade or business, interest deductions aren't provided to those who are not in debt, and thus depreciation deductions ought not be permitted for properties that aren't depreciating. Perhaps a realization that warps in the tax system contributed to the economic recovery, both directly and by encouraging people to play games in real estate in order to acquire tax breaks, will encourage the Congress to get to the root of the problem rather than sticking band-aids on the symptoms.

As a side note, it is worth noting that in the new digital world, an idea can be circulated in hours or days rather than in the months or even years that are required when an article is published in a traditional journal. A response can be crafted and published within hours or days rather than compelling people to wait for even more months and years. When people suggest to me that I bundle some of my MauledAgain posts into a law review article, I wonder why. By the time it appears in print, it most likely will be last year's story and an issue no longer getting attention. If the discussion of real estate depreciation, bonus depreciation, and first-year expensing doesn't show up until a law review can get it published, the legislative ship has sailed and the message arrives late. I share these thoughts because the development of the discussion concerning real estate taxation during the past week provides an excellent example of the point that I've been trying to make for the past ten or more years about the growing irrelevancy of traditional law review scholarship. Talk about something that is depreciating. But, well, to demonstrate that blogging can resemble traditional scholarship, here's the footnote.

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* For discussions of the problems afflicting the Pennsylvania real estate tax assessment process, see An Unconstitutional Tax Assessment System; Property Tax Assessments: Really That Difficult?; Real Property Tax Assessment System: Broken and Begging for Repair; and Philadelphia Real Property Taxes: Pay Up or Lose It; How to Fix a Broken Tax System: Speed It Up?; Not the Sort of Tax Loss Taxpayers Prefer; Uniformly Rejecting Tax Non-Uniformity.

It's January. Fast approaching is January 31, the date by which employers must get W-2 forms to their employees' and payors must get Forms 1099 to their payees. For most taxpayers, this signals the beginning of "tax season," a time for preparing and filing their tax returns. Or at least a time for having prepared and then filing their tax returns. For tax return preparers, the season began a few weeks ago, as they turned to installing tax software, running tests, stocking up on supplies, reviewing changes in the tax law affecting 2008 returns, and otherwise bracing for the stream of visitors. Recession or no recession, there are tax returns to be filed and tens of millions of people who need help in doing so.

But for some tax professionals, there's not much special about this time of year. For example, tax planners are busy throughout the year, and often their professional lives become chaotic in December. Tax faculty are busiest when preparing courses, teaching, and grading, and not much more happens in February, March, and April than happens in September, October, and November.

But this particular January brings a different type of tax season. Whichever way one turns, governments at every level are discussing tax issues as they focus on budgets, corporations and individuals are continuing to bring forth every imaginable tax break as "the" solution to the current economic turmoil, and Congress already is beginning to fracture as some insist on sticking to the disproven way of managing government revenue and spending.

Friday morning's Philadelphia Inquirer brought news that the Governor of Pennsylvania intends to hold the line on state sales and personal income taxes even though the state faces $2.3 billion projected deficit that weeks ago was a $1.6 billion shortfall. The Governor expects the federal government to provide stimulus payments to the state. Others have suggested a new tax on the extraction of coal, oil, and gas, which could generate a fair amount of revenue considering that a huge natural gas deposit has been discovered in Pennsylvania, or perhaps it already was discovered and they figured out how to get the gas out of the ground. To the extent the state cuts programs that local governments need to pick up, their budgetary woes will worsen and they will need to look at taxes.

For example, in Philadelphia, suggestions such as this one from a member of City Council, to delay scheduled wage-tax decreases have been circulating. People are debating whether a postponement of a schedule tax decrease constitutes a tax increase. Why argue about a label and then act based on the label? Why not debate the wisdom or lack thereof in delaying a wage tax decrease? Will it generate revenue? Only if it does not encourage businesses and taxpayers to leave the city. Will they? Has anyone done a survey?

Nor is that the only tax item getting attention in Philadelphia City Council. According to a Friday news report, legislation was proposed that would provide a $3,000 tax credit to employers who create jobs during the next two years. This credit is a revision of one enacted in 2002. That credit failed to generate jobs. Is it because the credit is only $1,000? City council is trying to decide why a tax credit predicted to create 3,100 jobs ended up creating 347 jobs. Perhaps for the same reason that brokers promise 31% rates of return only to see the actual outcome be 3.47%? Something about placing expectations that are too high on approaches that don't have a proven track record?

In D.C., Friday also brought news that Republicans in Congress are unhappy with the proposed stimulus legislation. The President has agreed to discuss with them their call for even more tax cuts. Somehow, the argument that cutting taxes will rejuvenate the economy continue to persist, even though a decade or more of tax cuts just didn't do it. Perhaps eliminating all taxes and government services will do the job?

In the meantime, another letter to the editors of the Philadelphia Inquirer keeps alive the idea of raising the gasoline tax so that reduced pump prices don't blunt the enthusiasm for alternative fuel development that had swept the country last summer. This is one of my favorites, a three-in-one plan to fix the economy, the environment, and the energy crisis. I've written about it extensively, with the most recent long analysis in The Return of the Federal Gasoline Tax Increase Proposal, which discussed a proposal that moved along the implementation path in a decision I discussed earlier this month in Whatever a Tax Increase is Called, Someone Needs to Sell It.

Friday's Philadelphia Inquirer was packed with tax issues. In yet another article, a former chair of Delaware County Council, arguing for a change in how state pensions are computed, pointed out that with the upheaval in the markets, the pensions that are promised to state workers and teachers will require "massive increases in taxes, especially property taxes for local school districts" because estimates of the revenue needed [to fund the promised pensions] are in the billions, and they will no doubt grow."

Today someone sent me a report advocating a two-year suspension of federal income tax on the gross income arising when a debtor purchases its debt from the creditor for less than the face amount. The report gives an example of a company that owes $100 but that can purchase it back for $75. We're supposed to agree that somehow the $8.25 tax liability arising from the $25 of gross income stands in the way of the company engaging in this buy-back and that somehow if many companies get this tax break not only will they engage in these transactions but by doing so they will restore consumer confidence and confidence in the free marketplace. My guess is that it would restore confidence in the belief that the system can be worked over by whomever is in a position to push through their favorite "for us and for us first" tax break.

That's not all. Friday's paper brought news that former state senator Vincent Fume lost his appeal of the reassesment of his home by the Philadelphia Board of Revision of Taxes. The last time I had written about this on-going story, in Not the Sort of Tax Loss Taxpayers Prefer, the Board was explaining that it had lost the file for Fumo's case. At that time the Board had voted 4-3 to refrain from reassessing Fumo's 27-room mansion, which had an assessment of $250,000 though it was on the market with an asking price of $7 million. After the file problem was somehow handled, the Board met again, one member changed his vote, and Fumo's mansion was assessed at $953,500. Fumo appealed, claiming that was too high a value. At the hearing, Fumo's appraiser testified that he had never been inside the mansion. The saying about not judging a book by its cover comes to mind. On Thursday, the Board met to consider the appeal. With two members absent for medical reasons, the Board voted to reject the appeal, reportedly by a 5-0 vote. Fumo, in the meantime, collapsed during his corruption trial in Federal court, though it is unlikely the news of the Board's decision was the triggering event. The charges include allegations that Fumo used state money and non-profit organization funds to pay for some of the renovations he undertook at the mansion. The house is on the market, at a reduced price of $5.5 million, because Fumo needs to raise funds to pay for his legal defense. The Board's decision can be appealed. The story isn't over.

Like that last story, the tale of this wild 2009 tax policy season is far from complete. It's just beginning. At every level of government, from Congress down to City Councils and local tax assessment boards, tax issues are coming out of the woodwork. In some ways, I'm glad that tax policy is now center stage, though it's too bad it took an economic catastrophe to get it there and even though it must share the stage with other very important issues, including environmental, energy, national security, and health care concerns. The latter arrangement isn't really an obstacle, because these issues are inter-connected, and tax has played and will play a role in dealing with each of them. People need to let their legislators and public officials know what they want the tax system to be, how they want it administered, how they feel about the activities of lobbyists, their reactions to the parade of special interest groups trying to get their particular tax break enacted, and what each proposal would do in terms of their confidence. Without a restoration of confidence, the tax policy game could end up being window dressing in a house of cards. To make their comments valuable, people need to learn about taxes, to read the proposals and not just the advocate's news release, and to study the analyses that have been published by commentators, tax practitioners, and taxpayers on every side of the issue. An informed electorate is a powerful electorate. That's one reason I write. Surely there is no shortage of material about which to write. I'm going to guess that somewhere there was a tax story on Friday somewhere that I missed. That's bound to happen, because I do not read all of the nation's local papers. I'll leave those stories to others.

Several comments have arrived reacting to my post earlier today, Taxing High-Income Individuals. One, from a former student, simply noted that he had "enjoyed" the post. Reading about taxes rarely causes joy, but sometimes it happens!

Another comment came from Mary O'Keefe, who is a public policy economist teaching tax at Union College and coordinating the Union College/Schenectady Department of Social Service VITA site. Today, in Tax Planning for the Rich and Poor, Mary quoted part of my Taxing High-Income Individuals post, and then added the insights and perspectives of someone who is in touch with many taxpayers, none of whom qualify as high-income individuals and almost all of whom face a variety of challenges, procedurally and substantively, from the tax law. Mary brings to the discussion a much-needed look at tax policy in the context of its everyday application to the lives of ordinary people.

Consider the sorts of questions encountered by Mary and people helping the not-so-wealthy with their tax returns. "What will getting married to our taxes?" or "What is negative marginal rate, what does it mean, and will it be with me forever?"

I'll leave it at that. The entire post is well worth reading. I wonder how many tax policy decision makers in Washington, D.C., understand these sorts of questions and concerns. I wonder how many of them understand those questions and concerns. I hope that somehow one or more of those folks make the opportunity to read what Mary has written.

There was an interesting article in this week's Tax Notes. In "What is the Appropriate Tax Base for a Tax on High-Income People," 122 Tax Notes 416 (2009), David Bernstein writes:

Imposing taxes on high-income households can be especially challenging. First, high-income households tend to be fairly adept at arranging their affairs to avoid paying tax. Second, a disproportionate number of high-income households are dual-earner couples that can afford to have one spouse quit his or her current position. Third, high-income households tend to have multiple sources of income and sometimes have the ability to define the form of their own compensation.

Bernstein addresses the question of whether tax rates can be decreased if the tax base with respect to high-income individuals is widened. He explains that social security and Medicare have been funded with taxes imposed only on wages, asks if that base should be expanded, and notes that doing so "could be" politically challenging.

Bernstein draws our attention to several concerns. Each deserves consideration.
The fact that "high-income households tend to be fairly adept at arranging their affairs to avoid paying tax," though true, ought not dissuade Congress and the new Administration from making that adeptness a useless skill. High-income individuals have this adeptness for several reasons. First, they can afford to hire people willing to craft tax avoidance schemes. Second, they can afford to enter into arrangements from which typical taxpayers are excluded because they lack funds. Third, they can afford to contribute huge sums to political campaigns, thus acquiring a louder voice in the democracy than has the typical citizen. Fourth, they benefit from existing tax loopholes, tax breaks, Code complexity, and IRS inability to defend the Treasury.

The answer is simple, though surely unpleasant. Eliminate deductions for tax advice fees. It's bad enough people pay for advice on how to escape civic duty, but it adds salt to the wound to finance those expenditures through a tax deduction. Make it more difficult for these folks to stash their funds into tax shelters by leaving them with fewer dollars to use as tax avoidance tools. In other words, increase the marginal rates on incomes over $1,000,000, ideally in progressive stages. Require total transparency with respect to campaign contributions, revealing the names of those who contribute to PACs, foundations, and other conduits used to funnel money into campaigns, and publish the lists on April 13. Clean up the tax law, removing the loopholes, breaks, and complexities that provide cover for the tax avoidance merchants. Increase funding for the IRS so that it can track down and deal with tax shelter promoters, offshore schemes, fraudulent returns, and other gimmicks used to make a person with high income pay taxes at rates lower than those imposed on the middle and lower income echelons.

The argument that raising taxes on the high-income cohort would backfire because "a disproportionate number of high-income households are dual-earner couples that can afford to have one spouse quit his or her current position," then go for the backfire. So what if the spouse of a multi-millionaire quits a job held for some reason other than supporting the family. Will the economy suffer? No. There's a long line of people who need jobs in order to survive who would be willing to step up and step in.

Indeed, "high-income households tend to have multiple sources of income and sometimes have the ability to define the form of their own compensation." That's one of the problems. Income should be income. Eliminate the various "qualities" attached to specific dollars on account of some label that is difficult to justify. If a person has $10, it can purchase $10 of goods or services whether it came from wages, interest, dividends, property disposition gains, gambling, or any other source of income. Giving a preference to certain income, such as capital gains and dividends, encourages people to play games to make salaries look like capital gains, to make interest look like dividends. Tax alchemy is bad stuff. It brews up economic turmoil.

Bernstein's question about funding social security and Medicare is a good one. The answer depends in part on what those programs are intended to be, which may or may not be the same as what those programs were intended to be. Is social security a retirement plan? Then perhaps it makes sense to fund it through a tax on wages and self-employment income. Or is social security a welfare plan? Then perhaps it makes sense to fund it through a tax on all income. The number of people added to the social security rolls by including those who did not earn wages or sufficient wages costs adds far less to the payouts that would be required than would be the revenue increase generated by taxing all income. Taxing all income would probably permit either a rate reduction, or an employment tax credit for low-income taxpayers, or some combination of the two. Medicare is easier to address. Medicare is health insurance. People get sick and need health care whether or not their income consists or consisted only of wages, or included wages and interest, or did not include wages. Medicare should be funded by a tax on all income. While they're at it, many of the exceptions and limitations can and should be swept away.

A plethora of tough economic questions face the nation. Tax issues abound. The ones highlighted by Bernstein are but a few, but they're an important few. Congress and the Administration need to act, they need to act quickly, they need to act decisively, they need to act sensibly, they need to act free of lobbyist manipulation and control, and they need to act for the well-being of the nation and all of its people. Can they do this? Surely. Will they do this? We'll see.

My Monday post criticizing, among other things, the proposed expansion and extension of bonus depreciation and first-year expensing deductions, Just Because It Didn't Work the First 50 Times Doesn't Mean It Will Work Next Time, brought a response from Robert D. Flach, the Wandering Tax Pro. He pointed me to his post, Here Is Something to Think About. In this post, Bob suggests the elimination of the depreciation deduction for real estate. I agree.

Ask any person who has been in one of my tax courses what they learn about depreciation of real estate, and they will tell you not only that they picked up some understanding of how it is computed, depending on the course, but that they learned the bizarre impact of a deduction that is allowable to a taxpayer even when the taxpayer is becoming wealthier. Deductions should be triggered by a decline in wealth, or out-flow, just as gross income is triggered by in-come. Not all income becomes gross income, and not all out-flow becomes a deduction, but it's flat out silly to permit a deduction to someone on account of a pretensive decline in value of property that has not only failed to decline in value but that has increased in value. Despite the recent stagnation and decline in some real estate prices, chiefly homes, over the long haul, real estate increases in value. Why? The supply is limited and the demand, that is, world population, increases steadily if not exponentially.

It is true that real estate is depreciated under principles that are less generous than those applicable to other property. Real estate depreciation is limited to the straight-line method, whereas accelerated depreciation is available for most other depreciable property. Real estate depreciation is computed using a mid-month, rather than half-year or mid-quarter, convention. Real estate depreciation is computed using periods of time longer than those used for most other depreciable property, even though the periods of time used for real property are significantly shorter than the economic useful lives of buildings. But these differences are misleading. Giving two pounds of cheese to a wealthy person when distributing five pounds of cheese to a poor person when operating a food bank for the hungry doesn't reduce the absurdity of giving free food to someone who is not financially bereft.

Bob asks, "So why do we allow a tax deduction for the depreciation of real estate?" The answer can be given in one word. Lobbying. Many years ago, lobbyists for the real estate industry convinced the Congress that if depreciation deductions were not allowed for real estate, the economy would collapse. They didn't invent this approach. Lobbyists for other industries, such as oil and gas, also used this tactic. Never mind that the real estate industry should have been happy that the increases in real estate value weren't included in gross income as they occurred. After seeing depletion deductions that permit, even to this day, certain extractive industries to deduct their investments many times over, it's no wonder that the real estate industry figured it had to "get ours" before there was no more getting to get. They probably did not expect what happened. Over time, everyone jumped onto the "give us a special tax break or the economy will collapse" bandwagon. Is it any wonder that the tax law is filled with provisions that are not only complicated, usually because of the attempt to restrict the provision to the select group represented by the lobbyist, but also economically untenable, unwise from a policy perspective, and often lacking in common sense?

Real estate not only benefits from disproportionately and unjustifiably favorable deduction principles, it also escapes the worst of the depreciation recapture rules. Whereas gain from the disposition of equipment and other non-realty depreciable property triggers ordinary income to the extent of previous depreciation deductions, the gain on the disposition of real estate is capital gain, either directly or through section 1231, and thus is taxed more favorably than is gain on the disposition of depreciable personalty. Why? I suppose without these special tax breaks, the economy would collapse.

If there is a blessing from the current economic meltdown, it's that it presents a lesson. Tax breaks do not prevent economic collapse. The only exception would be a tax break for truth-telling. What kills the economy is lack of confidence in one's trading partner, whether that partner be a retailer, a loan applicant, a manufacturer, an employer, or a customer. What causes lack of confidence? Lack of confidence is simply lack of trust, and what causes lack of trust is the constellation of deceitful actions, ranging from overhyped products, cooked books, fraudulent receipts, overstated deductions, hidden gross income, embezzled funds, Ponzi transactions, and, yes, lying, including lying about the impact of a tax break on the economy. Of course, I'm being facetious, because there is no way to administer a tax break for truth-telling. Too many people would lie when filling out the tax form that asks if they are truth-tellers. Instead, there need to be powerful disincentives for lying, and those penalties need to be enforced. Otherwise, people lose confidence in those charged with protecting the economy, particularly the government. When lack of confidence spreads from the market-place to the public arena, governance stability is threatened.

Reform needs to begin not only with the elimination of depreciation on property that does not depreciate but also with the other tax breaks that were advertised as economic palliatives and that turned out to be skid-greasing for tax shelters, tax fraud schemes, and financial rip-offs. If real estate or extractive industries, to give two examples of the most egregious beneficiaries of bad tax breaks, are that essential to the economy, they ought to be able to do well iin the absence of government assistance. If the product is good, and delivered truthfully and well, people will manufacture it and people will purchase it. If the service is good, and delivered truthfully and well, people will offer it and people will pay for it.

Someone who commented on Bob's post noted, "On the other hand, the real estate industry thrives on getting as much of a write-off as you can right now and worry about the future later. I doubt you could get political support for that." How true. How sad. Is not one of the underlying cultural problems with the economy the notion that one can have it now and pay later? The people who sell that approach, whether implementing the debt mess that enabled it or preaching the me-generation attitude that nurtured it, owe the country a confession and an apology.

The whole point of my Monday post, Just Because It Didn't Work the First 50 Times Doesn't Mean It Will Work Next Time, is that the time for change, true change, is upon us. Today is the first full day in office for a new Administration. The opportunity exists to implement change or to hang in with more of the same. Undoubtedly the advocates for those who have done well in ways that have hurt most Americans will continue to harp on why they, and their clients, are special and deserve to go straight from the left-turn lane, so to speak. It will take powerful and courageous leadership to look these lobbyists in the eye, publicly, and let it be known that their day in the sun has faded. They had their chance, they cajoled and manuevered the country into doing it their way, and the outcome is painfully obvious. Enough is enough. No more bonus depreciation gimmicks. No more first-year expensing extensions. No more depreciation of assets that are worth more now than when they were acquired. No more multiple deductions for investments. No more supremacy of short-term greed over consideration of long-term cost.

It's Groundhog Day, rerun city, and déjà vu all over again. Ask the Congress come up with a solution to the current economic crisis, and watch it turn to tax provisions that have been dragged out over and over and over as solutions every time an economic warning flag went up during the past two decades. The House Ways and Means Committee has released a summary of its proposed economic recovery package. Among the provisions are expansions of, and increases in, the earned income tax credit, the child credit, the education credits, the first-time home buyer credit, bonus depreciation, first-year expensing, NOL carrybacks, and several of the energy credits, widening of tax-exempt bond availability, and extending some of the existing tax benefits for economically distressed areas to a new category of tax-favored zones. If these sound familiar, that's because similar provisions have been included in some or all of the several dozen major revenue bills enacted during the past 20 years.

To its credit, Congress has tossed a "making work pay" credit into the mix, along with a small expansion of the work opportunity credit. It also has added several non-tax provisions, such as expanding Trade Adjustment Assistance job funding, increasing unemployment compensation, and adding funds to the Temporary Assistance for Needy Families program that focus more directly on the immediate needs of people in economic distress. But these proposals are, in the grand scheme of things, relatively minor.

Does it make sense to increase deductions for acquistions of equipment? How does that restore confidence in the economy, which is essential to putting the nation back on track. How does a tax provision that encourages businesses to use their limited funds to buy machinery put people in this country back to work? Nothing in the provision requires that the property be built in the United States, and it's almost certain that such a requirement would violate at least a few trade agreements and treaties. What's the point of enacting tax breaks that create jobs in other nations? Dollar-for-dollar, a tax break for creating jobs directly is worth much more than a tax break for purchasing equipment.

With the nation's economy in rampant turmoil, does it make sense to turn to the same shop-worn provisions that came with promises of outstanding national economic performance that failed to materialize behind the façade of debt-driven unaffordable consumption? Advocates of these provisions argue that they give businesses an incentive to create jobs, but if that were the case, why hasn't unemployment dropped while previous increases and expansions of bonus depreciation and first-year expensing were being increased?

What Congress is proposing to do is more of the same. It didn't work last time around. Why would it work now? Sometimes persistence is a virtue. Other times it is foolishness.

The answer is simple. The things that need to be done are neither palatable nor easy to explain. Dishing out more tax breaks that are easy to explain and promise relief with no sacrifice sell better when election day rolls around. The depreciation provisions, including bonus depreciation and first-year expensing, have contributed to the current economic mess by allowing taxpayers to compute taxable income as though their economic position declined when in fact it remained the same or improved. Packaged into tax shelters, LILO deals, tax-exempt leasing arrangements, and other devices that contribute to the tax gap, these provisions ought not be considered remedies for the very economic diseases that they have caused and aggravated.

If, indeed, it is time for change, Congress should be given that message and understand it. Change does not mean doing something over and over when it hasn't worked and shows no signs of working. Just as consumers need to abandon the bad habit of spending beyone one's means and borrowing beyone one's ability to repay, Congress needs to break its bad habit of using the tax code as a vote generator. The likelihood of Congress embracing genuine change and doing more than giving lip service to the concept remains, unfortunately, very low. Its recalcitrance may prove to be one of the most difficult obstacles to the incoming Administration's success in solving the mess in which we find ourselves.

Years ago, one of our then adjunct professors in the Graduate Tax Program told me a story about a taxpayer who thought he could outsmart the IRS by taking advantage of his church. This adjunct was an attorney who had recently retired from the IRS, and as best as I could tell either was involved in the case or knew the people who handled it. The taxpayer's return had been selected for audit because the charitable contribution deduction was quite high, particularly considering the taxpayer's modest income. When asked about the deduction, the taxpayer produced cancelled checks payable to his church that pretty much matched the deduction that had been claimed. Somehow the IRS made contact with the pastor of the church in question. The pastor confirmed that the taxpayer was a member, and when asked if he was indeed such a generous contributor, the pastor provided a damning explanation. The taxpayer had approached the pastor and expressed concern about the cash accumulated from the Sunday collections being left in the rectory. He offered an arrangement. He would write a check payable to the church in exchange for the cash collected during the Sunday services. The rest, as they say, was history. The taxpayer was charged with tax fraud, and some sort of deal was arranged. That is why, I suppose, that there's no official account of the tale. There is a slightly different version of the story in A Very Interesting Question, written by Robert D. Flach, known also as the Wandering Tax Pro. As best as I can tell, the pastor had no clue that the taxpayer was motivated by something other than security concerns.

Why no tax deduction for the payments to the church? It's not a charitable deduction unless it is, among other things, a gift. There is no gift if the taxpayer receives something in exchange for what is transferred to the tax-exempt organization. The rule is that there must not be a quid pro quo. Does a legal principle seem much more authoritative when it is expressed in Latin?

Now comes another story involving a church, and a taxpayer using its unknowing parishioners in a scheme to defraud the federal government. According to a news release from the Southern District of Florida, the federal government has arrested and indicted a tax return preparer on 24 counts of making and presenting fraudulent refund claims against the United States. According to the indictment and statements made in court, early in 2008 the defendant offered free tax return preparation to the members of a church in Westchester, Florida. Numerous parishioners took him up on the offer. Without telling them, the defendant included false deductions and credits on the returns, generating more than $84,000 in false refund claims. The defendant diverted part of the refunds to his personal bank account without telling the parishioners. I suppose his thinking was as follows. So long as the parishioners receive the refunds that they would have received had accurate returns been filed, they're not being deprived of anything by the defendant's actions. In other words, he wasn't stealing from them. But he was stealing. From whom? Many would respond, "From the government." But they're wrong. He's stealing from us, from you, from me, from people who pay taxes expecting that the money will go somewhere other than into the pocket of a tax return preparer through the filing of false claims.

One question did pop into my brain. Would not at least one of the parishioners look at the return before signing it, and then notice that the refund deposited into his or her bank account was less than the amount on the return? Would not at least one of the parishioners look at the return and notice deductions and credits that were inconsistent with the parishioner's financial situation? Imagine a childless taxpayer noticing a claim for the adoption credit. Imagine a renter noticing a claim for a mortgage interest deduction. But perhaps the answer lies in the general tax illiteracy of the American population, as reflected in the results of an H&R Block survey noted in Americans Failing Taxes 101. The less involved Americans are in their own tax reporting, the less likely they are to notice errors and preparer fraud, the less likely they are to understand their actual tax liability and the effect of their decisions on tat tax liability, the les likely they are to realize the impact of tax policy on their lives, and the less capable they will be of participating as citizens in public discourse about taxes that reaches beyond trite sound bites. Tax fraud is not sacred, but a citizen's obligation to understand taxes is no less sacred than the citizenship to which it is attached.

Spring semester classes began last Thursday. The Introduction to the Taxation of Business Entities course in the J.D. Program already has met twice, and Partnership Taxation in the Graduate Tax Program meets this evening for the first time. Long before I walk into the first class in any course, I have been investing significant amounts of time preparing for the course. For fall semester courses, the preparation usually begins in April or May, is suspended during most of the summer, and resumes in August. For spring semester courses, the preparation usually begins in late October or November, is suspended during part of December, and resumes in early January. Some people, including law students, think that there's nothing much for the professor to do but to pick up the book assigned to the course and last year's notes, walk into the classroom, and begin talking. Though that might happen in some courses, it ought not happen, and it surely doesn't happen in my courses. I've been meaning, for several years, to dedicate a posting to an explanation of the process that I use to prepare a course that I have previously taught. Hopefully, it's informative to people inside the law school community as well as to those who are on the outside looking in.

For illustrative purposes, I will go through the tasks undertaken to prepare Introduction to the Taxation of Business Entities for the Spring 2009 semester. The publishers of the book that I use produced a new edition in the late summer of 2008, so that made the list of tasks longer than it otherwise would have been.

1. I went through my class notes from the Spring of 2008, looking for notations that I had made in the margins, corrections that were necessary when I discovered something wasn't right, modifications I suggested to myself when I found a better way to make a point, and warnings that I gave myself that indicated some revision was required because that particular topic or point didn't flow as smoothly as it ought to have. Wherever necessary, I made changes to the class notes document.

2. I then did the same thing with the Course Outline and Assignments document that circulates to the students. Here, I am looking for typographical errors, notations suggesting increases or decreases in time allotted to a topic, items that were assigned that can be eliminated, or suggestions to myself for items that should be added. Where necessary, I made changes to the Course Outline and Assignments document.

3. I then did the same thing with the Powerpoint slides for the course. Not only are there typographical errors, there are programming errors. Far too often, even after checking the slide, something ends up not appearing in the correct sequence, or something doesn't show up on the classroom projector the way it did on the office desktop. It's not unusual for me to notice something that can be improved in terms of presentation, arrangement, or sequencing. Where necessary, I made changes to the slides.

4. Then I turned to the materials that I provide to students to supplement what is in the assigned book and in the currently available Code and Regulations student edition volume. These materials are in html format. I update the references to the semester and year, and I update the links from the materials back to the table of contents and the Course Outline and Assignments sheet. I review the materials to see if any of them should be removed, that is, if the experience from the previous semester or semesters suggests that including a particular item is more disadvantageous than advantageous.

5. Then I determined if there was any new legislation affecting the course. The answer is derived from a combination of saving things in a file during the period of time since I last taught the course, looking at the text of legislation passed during that time, and culling my memory to dig up whatever entered it but that did not make it into the file in which changes were stored. For the legislative changes, I then decide if students need to see the text of the change, and where they did, I created a new item for the supplemental materials by copying the text into my html editor, editing the text, and setting it up so that it takes its place in those materials. I modify the table of contents. I add the item as an assignment in the Course Outline and Assignments document, which also is in html format. I modify my class notes to reflect the change. Where appropriate, I made changes and additions to the Powerpoint slides to show the impact of the legislative changes. I determined which problems required either fact modification or new answers and solutions, worked those out, made changes to my class notes, and then made changes to the relevant Powerpoint slides.

6. I then went through a similar process with respect to regulations, cases, rulings, and other materials that emerged since the last time I taught the course. These developments also required removing some materials and adding some materials, making changes to class notes, the Powerpoint slides, the table of contents to the materials, and the Course Outline and Assignment document.

7. Then I went to the IRS web site and downloaded the 2008 version of Forms 1065, 1120, and 1120S and the Schedules K-1 for Forms 1065 and 1120S. Actually, I went to the IRS web site at least four times before those forms showed up. Then I changed the year reference to those forms in the table of contents to the supplemental materials.

8. Next it was time to update the questions used with the student response pads ("clickers"). As the previous semester progressed, I made notes to myself about better wording of the questions and improved choices. I noted instances where additional questions would be helpful. I identified a few questions as candidates for the scrap heap. I noted instances where more choices were required. Accordingly, after importing the spring 2008 version of the .cps file into a new .cps file, I then went through the file and edited existing questions, deleted a few questions, and added some questions.

9. The next step was to go through the Table of Contents to update the references to the semester and year, to make certain the year references for IRS forms were updated, to modify the edition and copyright information, and to make certain new items were included and that references to deleted items were removed.

10. I turned to the Course Information Document, which contains several pages of administrative and similar information that in my early days of teaching was shared during the first day of class. Class time is valuable, so I provide this information through the Blackboard classroom. Aside from updating the links to the other course documents, a variety of other things had to be reviewed and in some instances updated.

11. The instructions provided to students for using the clickers was next in line. Because einstruction had changed its registration process since the spring 2008 semester, I revised this document.

12. It was time to review the Course Outline and Assignments document. I updated references to the semester and year. I went through the document, changing the days and dates to those corresponding to the spring 2009 semester. I double checked the addition and removal of items in the supplemental materials. I updated the links to the table of contents and Course Information Document, as well as the html code for the copyright.

13. There was a new edition of the book used for the course. I prepared a page correlation sheet, going through the old edition and the new edition page by page, looking for changes. They could be as noticeable as the addition or removal of a case, or as subtle as the change in a single dollar amount or taxable year reference in a subset of a problem. Depending on the change, I determined if I needed to remove any items from my supplemental materials. I did, because the new edition "caught up" with developments that had required me to add items, in this case proposed regulations, to the supplemental materials. This time, unlike other instances, the changes did not require me to add something to the supplemental materials. Occasionally a new edition will remove a case, ruling, or other item that I consider essential for the course. Because of the changes from one edition to the next, specific items in the book appeared on different pages. So I took a copy of the Course Outline and Assignment document, printed it out, and changed every instance where a page number appeared. They appeared in assignments and they appeared as problem identifiers. I returned to the html editor and made those changes. Then I returned to the class notes and changed the corresponding page numbers, as well as any notations referring to items deleted from the supplemental materials to reflect that change, along with any facts or computational solutions to problems that had been changed. Next up, the Powerpoint slides, which contain numerous page references to the book. Those were changed, as were the presentations and solutions to any problems for which the facts had changed, in those cases where the problem was presented on the slide or its solution mapped out on the slide. The clicker questions, many of which reference a problem from the book, also required the opening of each batch of questions in order to change the page references.

14. Not yet quite finished, it was time to archive the files for the spring 2008 version of the course, moving them off the desktop to make room for the fall 2009 course changes to be developed in April and May. Usually this step and the following ones are handled about a week before the semester begins.

15. The files for the spring 2009 version of the course were copied to the external hard drive. I only can imagine what would happen if the internal hard drive in the desktop crashed.

16. I copied the files for the spring 2009 version of the course to my allotted space on the network drive so that I could access them from the classroom.

17. I copied the files for the spring 2009 version of the course to my laptop, which I take into the classroom.

18. I requested the Audio-Visual Department to make certain that a projector, a screen, and a network connection were available and functioning in the classroom in which I would be teaching the course. They're very good about this, having already anticipated my request. Later, I would meet with them in the classroom to check out the facilities because I had not taught in that particular classroom for almost a decade.

19. I requested the Department of Academic Computing to create a Blackboard course for Introduction to Taxation of Business Entities Spring 2009, and to move whatever preferences and settings could be moved from the spring 2008 course.

20. The next task was to open the clicker software, and connect the new .cps file for the spring 2009 version of the course with the einstruction website so that student clickers could be registered and linked to the answers they provided to the database when questions were posed to the class. That provides a registration number, which then is inserted into the clicker instructions made available to students. Why wait this long? The course cannot be created more than two weeks before the class begins, because there is a time limitation on how long the course remains open at the website.

21. Then it was time to configure the Blackboard classroom created for the course. Though usually most of the settings are preserved when the previous version of the course is copied, the change in the version of Blackboard being used prevented some of those from being saved.

22. Then it was time to upload the Powerpoint slides, the supplemental materials, the table of contents, the Course Outline and Assignment document, the Course Information Document, and the student clicker instructions to the Blackboard classroom. Each Powerpoint file is uploaded individually, and because of a transition in the version of Blackboard being used, required re-creating an identification label and access settings for each file. The other documents are bundled together in a .zip file, and then uploaded, which permits the Course Outline and Assignment document and table of contents to have links to the items in the supplemental materials, for each of those materials to have links back to the Course Outline and Assignment document and table of contents, and for those two documents and the Course Information Document to have links to each other. After this has been completed, I created the discussion forums that are used on Blackboard, namely, one for semester exercises, one for substantive discussions, and one for course administration matters.

23. A time-consuming task awaited. Load up the printer with paper and to crank out what I need in the classroom. Class notes, Powerpoint slides, clicker questions, new or revised supplemental materials, the table of contents, Course Outline and Assignment document, and the Course Information Document find their way into hard copy format. The slides are then annotated with references to the clicker questions that are designed for use with that topic.

24. While that process was underway, I took a walk to the Registrar's Office and obtained blank seating charts for the classroom in which I would be teaching the course.

25. A day before the first day of class, I visited the University's registration system and obtained a list of the students who were enrolled in the course. This would be the first of at least three visits, as students add and drop the course through the drop-add period.

26. On the first day of class, I sat down with a calendar and planned the timing of the semester exercises in the courses that I am teaching. Without planning ahead, I could end up with students doing 3 exercises during the last week of the semester, or with myself having several exercises to grade and to prepare on the same day. Attention must be given to spacing the exercises correctly, avoiding first-week-of-class exercises, refraining from scheduling due dates that correspond with days that the school is not in session, etc. etc. It definitely was a bit easier than it was last August, because fitting in 25 exercises for 3 classes is much more challenging than fitting in 15 for 2 classes. Those numbers reflect the fact that there are only 5 exercises in the Graduate Tax course, because it meets only once a week and not three times a week.

27. As the drop-add period comes to a close, I will reconcile the official class list with the seating chart, and with the list of students self-enrolled in the Blackboard classroom, and with the list of students who have registered clickers. All sorts of combinations are possible. There usually are students on the seating chart but not on the class list, because something went wrong with their registration. Sometimes students think they have dropped a course but have not done so, and thus they show up on the class list but not on the seating chart. Students who drop the course after self-enrolling in the Blackboard classroom cannot remove themselves from Blackboard. Clicker registration rarely matches any of the other lists. After doing this reconciliation, I send emails to any student who is not on all four lists. When that is cleared up, I then create a seating chart with digital photos, which are obtained from the official class list. I use Powerpoint to do this, through a process that I have passed along to the one of the fellows in the Department of Academic Computing. Someday, I hope, it will be fully automated.

When people who are not teachers learn that I have five, or as was the case last semester, eight hours in the classroom, they usually compare that with a 40-hour work week and wonder what I'm doing to justify calling law professorship a full-time job. What they overlook is the four or five hours that I invest for every hour that I am in the classroom, four or five hours invested in preparing the course, preparing and grading semester exercises, preparing the examination, and grading the examination. That's a fairly constant time allocation. What varies significantly, depending in part on the number of students in a course and the extent to which they communicate with me, is the time invested in answering questions that are posed by email or in person. Some of these hours are invested during the semester, and others are invested before or after the semester. It's a very risky thing to try to teach a course by showing up on the first day of class.

Well, that's how I get ready for a course. There are law faculty who follow a similar pattern. There are others who do not. Someone who does not use Powerpoint slides, clicker questions, or problems requiring preparation and solution, and who does not provide supplemental materials, can omit a good chunk of what I do as I prepare. If they also omit semester exercises, there's even less to do. I do what I have decided needs to be done for my teaching to be effective. I doubt I'd be comfortable trying to get by on less. And without my checklist, which is a shorthand version of the 27 steps I've described in this post, I'd be lost. So, when someone asks what I am doing when I'm not in the classroom, I explain that in addition to writing and dealing with committee and other administrative matters, I'm working through my course preparation checklist. I'm usually getting ready for next semester while the current semester is underway. In a few years there will come a semester when I won't be getting ready for a next semester. I will ditch those checklists and I will be …. yes, listless.

About a year ago, in When All Else Fails, Throw Tax Money At It, I criticized the manner in which the federal government was handling the conversion of broadcast television from analog signals to digital signals. Congress, which in 2005 mandated that the switch occur in 2009, allotted $1.5 billion to the National Telecommunications and Information Administration (NTIA) to provide $40 coupons that would be distributed to people who requested them. The coupons can be used for, and only for, paying some or all of the cost of a converter box for analog televisions. After computing that there was enoguh money for 33.5 million coupons, I then asked, "Who gets them."

I answered the question as follows:

CNN reports that "The giveaway basically works under the honor system." Does that make you feel as wonderfully confident as I do that the people who need the converter boxes and who lack the resources to acquire one are the people who will get the coupons? Surely the con artists, the identity thieves, the credit card imposters, the greedy, and the troublemakers will sit this one out. What controls are in place to prevent the well-intentioned, confused, and yet affluent citizen who notices the giveaway from requesting, and getting, two coupons? Apparently, none.

The only distribution arrangement that appears to be in place is a reservation of 22 million coupons to anyone who asks for one or two. In theory, those who enacted and administer the program expect the requests to come from people who, despite having televisions connected to cable or satellite systems, also own analog televisions not connected to those systems, or who own only analog televisions without any cable or satellite connection. In practice, I predict that some coupons will be requested by people who understand that when the cable or satellite system goes down, over-the-air broadcast might be the only communication connection to the outside world, and that for analog televisions, the converter box will be necessary. Of the 33.5 coupons, 11.5 are set aside for people who do not have cable or satellite television. Even if people requesting coupons are asked about their television situation, what's to prevent them from saying what they need to say to get the coupons? And even if the honor system works perfectly, industry information suggests that there are 2.8 million more households without cable or satellite system connections than there are coupons reserved for those households.

The Government Accountability Office has criticized the NTIA, claiming that there is no comprehensive plan in place for the transition to digital television. Of the $1.5 billion set aside by Congress to finance the transition, only $5 million was earmarked for programs that explain to the public what is involved in the changeover. One survey indicates that slightly more than half of Americans do not know that the shift from analog to digital is underway. Now the government, through the FCC, is considering a regulation that will require broadcasters to donate air time to educate the public about the new technology.

* * * * *

When all is said and done, some of the taxes paid by taxpayers will be given to people regardless of genuine need, so that technological changes benefitting wireless providers can be implemented through government planning that is far from comprehensive or sensible. The government is implementing a system financed by taxpayers and designed to help not-so-poor wireless providers, with no controls to prevent $40 coupons from enriching those not in need, with no guarantees that the planned auctions will reimburse the taxpayers.

Unfortunately, the criticisms levelled by the GAO and by yours truly have not turned out to be groundless. The NTIA has no more money for coupons. Since January 4, it has been putting people who request coupons on a waiting list. There now are more than a million people on that list. Barring more funding, the only way these folks can get a coupon is expiration of a previously-issued coupon. Of course, people can purchase converter boxes without coupons, but it will cost them an additional $40. That's assuming converter boxes are available.

Last week, as described in this story, the Consumer Union urged that the changeover from analog to digital be postponed. Why? Because the program for the change "has been underfunded and poorly implemented." What a surprise! Just as predicted.

President-Elect Obama has joined in the call for a delay in the implementation of the analog-to-digital transition. According to this report, the incoming Administration cites as the principal reason for its recommendation is that the Commerce Department, of which the NTIA is a part, has run out of money for the coupons. The incoming Administration also expressed concerns that not enough has been done to assist people in making the transition. The Chair of the House Committee on Energy and Commerce admitted that the transition is not going well.

Of course, there is opposition to a delay. The current administration opposes it because government and the broadcasting industry have "invested so much in preparing for this date" and a delay "would create uncertainty, frustration and confusion among consumers." And the current mess isn't causing uncertainty, frustration, and confusion for people? The current administration instead is seeking another $250 million to fund more coupons. Yet at least one Republican member of the Congress opposes more funding, claiming that more coupons will be issued as unredeemed ones expire. But how does anyone know how many coupons will end up unredeemed? Also opposing the delay is the Consumer Electronics Association, which notes that the change is designed to make more radio frequencies available to first responders, who ought not be kept waiting any longer. The National Association of Broadcasters declined comment on the delay but also noted that the shortage of coupons can be remedied without a delay.

At this point, my question isn't so much addressed to solving the problem as it is to learning a lesson for next time, whatever challenge that next time may bring. Consider the facts. Congress enacted the legislation mandating the changeover back in 2005. In 2005, everyone who paid attention knew or should have known that there would be a change in 2009, and everyone who understands transactional planning knew or should have known that there things requiring attention long before January 2009. Not only were most people not paying attention, the folks who should have been getting everyone's attention didn't start to do so until 2008. The cultural mindset of leaving things until the last minute once again has demonstrated its shortcomings. Yet it continues to dominate the way this country operates, the way businesses conduct activities, the way students run up against deadlines, the way professionals are late for appointments, the way things aren't ready when they are supposed to be ready. It's no wonder that organizations and activities infused with the mindset of readiness and preparation do not get the attention or admiration that instead is given to the procrastinators.

Congress allocated enough money to provide 33.5 million coupons. That's just a fraction of the households in this country, and as I pointed out in my earlier post, anyone who thinks about the issue for more than a soundbite moment would understand that everyone needs a backup over-the-air television reception system because cable simply isn't as reliable as the cable companies claim. It's cheaper to buy a converter box, especially when outfitted with a $40 government coupon, than it is to purchase a digital television. So should it be any surprise that people gobbled up the coupons? Do we know how many coupons were sent to people who easily can afford a converter box and how many were sent to people whose financial situation prevents them from purchasing one? The NTIA distributed the coupons without asking, and without being required to ask, and probably without being permitted to ask, questions concerning the financial condition of the coupon recipient.

In my earlier post, I concluded with this observation: "The only good news is that the coupon distribution is not tied to the tax system, was not enacted in the form of a tax credit, is not implemented by the IRS, and is not reflected on federal income tax returns. I wonder how that happened." Now I am beginning to suspect that someone will sell to the Congress the idea that the converter box purchase problem should be solved with a $40 tax credit available only to individuals with some sort of modified adjusted gross income under some particular dollar amount. Talk about making a bad situation worse.

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.