Successfully Nailing Jell-O to a Wall

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Who says you can’t nail Jell-O to a wall? I know, you can’t literally nail Jell-O to a wall, but once in a great while you can do so figuratively by forcing a conservative to confront the glaring contradictions in his logic. It doesn’t happen often. If you’re trying to get there, always try to debate via email, because it’s infinitely more difficult to force the confrontation in a live conversation, for the obvious reason that there’s no written record of what was previously said.

Truth is, engaging in this sort of debate is an utter waste of time, but for those of you who share my glee when a conservative gets called on his bullshit, enjoy the ride. It takes a long while to get there, so bear with me. I have tried to excise the passages that are beside the point, but there remains a lot of back and forth. That was actually helpful, because you need the conservative to lose sight of his original premise in order to reach the desired result.

The starting point is an article I wrote a few months back in which I suggested that corporations were becoming too big (and too powerful) to tax. A conservative I know emails me to call into question the practice of taxing corporations at all.

[snip]

But I also believe completely that taxing corporations is completely absurd.   Why bother.    To me it is pretty simple.    Corporations only do 4 things with money.   1.   They pay their stock holders, (who pay taxes) they pay their employees (who pay taxes), they investing the company (which should lead to more payments for 1 and 2) or they save the money for future use, which is simply a deferral of 1, 2, or 3.    and the more they save the more money in banks or bonds which grows the economy, plus insures the company has a greater chance of survival in the downtimes.    So why bother taxing them.    It all gets taxed eventually anyway.    Taxing corporations is bad for corporate growth, bad for employees and bad for stockholders.     Just seems silly.

[snip]

There are false premises here that I could have attacked. Stockholders, for example, more often than not do not pay taxes, because most corporate stock these days is held by tax-exempt organizations.

But what’s the fun in that? I wanted to see how far out on a limb my friend would go, which turned out to be very far. So, I asked:

So, in this world as you think it should be, could you incorporate your [name] business (if you’ve not already) and not pay tax until $$ are distributed to you, either as the sole shareholder or as an employee?

The debate over whether to lower the corporate tax rate rarely focuses on the windfall it would provide to the millions of business that right now are not operating as U.S. tax-paying corporations.  If we eliminated or substantially reduced the corporate tax rate, those businesses would incorporate and save billions.

He could have hedged or retreated a bit here, but the freedom of the outer reaches of the limb beckoned, so he ultimately ventures further, although it requires some education about how our tax system works for him to get there:

Correct me if I’m wrong, but isn’t that exactly what already happens with both our businesses.    I suspect you are an LLC?    So you take the money you make.   Pay some to your staff some to yourself  (presumably some small amountso as to avoid payroll taxes) and the rest of your income comes from disbursement of profits to shareholders (in this case you) who then pays taxes on it.

Some money you invest in new copiers computers toner etc.   Some on advertising.

How is an LLC different from what I am suggesting.    Just on a bigger scale.

Okay, he needs a little help. That’s perfectly acceptable. He’s not purporting to be a tax expert. Help provided:

Because in an LLC, the profits typically are taxed to the owner(s) whether they are distributed or not. The actual distributions generally don’t trigger a tax.

So, I’m asking whether you think you and I should be able to do what you’re saying Apple should be able to do – accumulate profits with tax deferred until distributions are made or employees are paid.

Here he goes further out on the limb:

OK so I feel a little disarmed debating tax law with you but as I understand it the profits are taxed by definition because they have to be disbursed.    Or at least everyone I know does disburse them.

Back to the subject at hand.    Bob, maybe I am obtuse, but really don’t see why there should be an issue with what I propose.    Yes I do really think that you or I should be able to retain earnings in our business for future business needs with no tax ramification.  .   I mean really why not.   What are we going to do with the money.   It doesn’t go stale or disappear there is no expiration date.    So the money sits there.    At some point I will want to use it.    For me (profit or income) or for investment.    Till then it just sits there letting me sleep at night that I have a years operating expenses in the bank.   Or knowing that when I come across that great investment or great employee or great case, I have the money to execute.    The way it stands now I am motivated to do other things by tax code.

[snip]

Now he’s designed a tax system where anyone who incorporates a business can defer tax until profits actually are distributed. If you own your own business, this means that only your living expenses are taxed, but if you’re an employee, all your income is taxed, unless:

I think  your answer to my question, in your second paragraph, is entirely consistent with what you said about the corporate tax in your original email, so don’t feel disarmed.

Now, let’s say my secretary incorporates and I contract with her corporation to provide secretarial services. She and her corporation should be entitled to the same tax treatment as you and I, correct?

So, does my friend venture farther out onto to limb?

Of course, but that example already happens literally in my business.    Instead of an employee she is an independent contractor.

[snip]

A baby step. Let’s invite him to take a bigger step:

Well, not exactly. Independent contractors who are not incorporated must report their income on their personal tax returns on a schedule C. But you’re right, it does work that way in your business. Professional athletes do this as well.

And, really, anyone should be able to do this, right? A janitor should be able to incorporate and contract to perform janitorial services through his corporation.

Right?

He’s having trepidations, but too late to turn back without losing face:

OK, I will allow you to lead me down the primrose path by saying Correct, since I know that is where you want to go.

A nod to his being such a good sport, then a dare to go farther out:

Okay, thanks for playing.

So, why make folks jump through the hoop of incorporating? Why not just say individuals are not taxable on what they earn, but only on what they spend (with spending distinguished from investment)?

“Why, thanks for the invite, Bob. I just love this part of the limb! It feels so sturdy”:

Done!!!

I think a national sales tax is brilliant.   That way we only pay on what we consume not on what we make.    No IRS, no paying pseudo taxes to my accountant of protecting me from taxes..    No hiding income, now foreigners getting a free ride.    But a car pay tax.    Hotel room pay tax dinner tax.     Save your money  NO TAX

Bankrate.com reported in 2012 that 28 percent of American families have no savings. Another 20 percent don’t have enough saved to cover even three months’ worth of living expenses, while just 43 percent have enough in savings to cover three months of expenses.
Americans’ savings problems don’t stop when it comes to retirement savings. The “Chicago Tribune” reports the average 401(k) balance hovers around $74,600, as of 2012, while the average account for those over age 50 is about $130,000. A December 2011 report by “USA Today” reveals that half of all U.S. retirees have less than $25,000 in savings of any kind.

Must encourage savings.

How to deal with taxing the poor.   Easy figure out how much money a poor person spends on items .    Say 15% national sales tax.     If you make $20,000 you would pay $3000 you can’t afford.    So everyone gets back $3000 from federal government.   Poor paid no taxes.

I think he was expecting and wanting me to get into the regressive nature of the sales tax. His last paragraph was designed to inoculate against that attack. But I went in a different direction, raising questions about the details (you know, where the devil hangs out):

What if you buy a house? Do you pay tax?

Give him credit here. He’s acknowledging that this is a tough question:

That depends on how good the Realtors and Home Builders lobby is.

I think it could be handled that way.   Or maybe more fairly could be handled that neither home purchase nor residential rents are taxed.

Some would argue that home purchases and or stocks and bond purchases are a form of savings and thus exempt.    Maybe stick the definition currently applied to state sales taxes.   Do any states charge sales tax on the purchase of a house?    Can’t think of any.

Fair enough. This conversation is not supposed to be about who knows more, so I’m happy to share knowledge, and perhaps make the question a bit more difficult:

AZ charges sales tax on new homes. Although in AZ the tax technically is on the seller, but it’s always passed through to the buyer.

What if you buy the house not to live in, but as an investment (rental unit)?

Now he’s emboldened, thinking that I’m just stuck on a narrow detail:

My personal opinion is that the tax should be on consumption not investment.   Houses are not consumables.   Just as you should not have a sales tax on stocks and bonds.

You really do want people buying houses.    It is good for neighborhoods, good for buyers long term.    Homebuyer spend much more money on home improvement etc.

Curious as to why so focused on homes.   Figured you would dismiss sales tax out of hand as not taxing the rich enough

If your only objective is how to deal with houses then we are so far along I’m sure we could reach a compromise on this issue.

They should really put us in charge you and I could get stuff done.

Yeah, right. Back to the task at hand. A few more questions on where we draw the line between “consumption” and “investment”:

I’m just trying to understand your philosophy better

So, education? Would that be viewed as a taxable expenditure, or an investment in human capital, therefore exempt?

And how would you treat consumables used in a business or other profit making venture? For example, [your business] spends money on paper at Staples. Taxable?

He didn’t respond, but only because he got side-tracked by more pressing things, which is entirely understandable. He was still very much in the game. I added a new wrinkle to invite him to carry on:

I’m hoping you just lost sight of this one and haven’t terminated the discussion.

I’m still curious to see your answers on the previous questions, but let me add another one:

You seem to think of this as a tax paid by consumers, or at least articulate it that way in your emails. For example, if I pay $100 for hotel room, I would pay 15% of that in tax, brining my total expenditure to $115. But what if the structure were that the seller (in this case, the hotel) paid a 13% tax on its receipts? So, if the hotel charged my $115 for a room, it would fork $15 of that over to Uncle.

It seems that in substance these situations really are identical. In each case, I pay $115, the hotel gives me a room and gets $100, and Uncle collects a $15 commission, if you will, on the transaction.

So, when you say this is a tax on the consumer, how do you know that to be the case? Is it possible that the economic burden of your consumption tax would be borne, at least in part, by the “producer”?

And he’s back, with a lengthy explanation:

I just don’t remember seeing your email.   Let me respond to both here.

Education is a non taxable event.   Can think of few things that are more honestly investments than investing in your education.     Hard to believe anyone would have much of a problem with that.    Now I realize we might disagree about what is education.   Is a 4 year degree education.   Many would say yes out of hand.    But it seems to me some of the degrees offered today are useless.    But better to err on the side of no taxes on legitimate education towards some accredited degree or license or required for CLE for example.

Consumables used in business are taxed.    But materials used in manufacturing are not.    So if Apple buys toner they pay taxes.   When they buy a hard disk to install in the phone that is not taxed (until the phone is sold).    When they buy a product used in manufacturing for example a CNC machine to cut aluminum, they pay taxes on the machine.

All taxes should be paid 100% by the consumer.    Never by the supplier.     Why?   No hidden taxes.   People should know when they are being taxed.    Gas Cigarette and alcohol taxes are BS because no one knows they are paying taxes or how much.

We must remember that in this model there is no income tax, no other tax.    So it is fair to err on the side of taxing.    That being said I do understand that we will need accounting and tax law people to walk through the logistics of when to tax and when not too.

But I think the goal should be no special cases.    If you cannot apply a rule to all industries you cannot apply it to any industry.    Boeing or Intel or Chevron can’t say that they have a special economic need and thus can avoid paying sales taxes on something that would be taxed other wise.   I know that lawyers can make this very complex if you let them and that business will thrive on complexity as they can bend it to their needs.    So when in doubt, tax.

He’s making arbitrary and illogical distinctions at this point, but who cares.  My question went to something entirely different. So, a clarifier:

You may have misunderstood my last question. I’m not asking how you would structure the tax, but who is bearing the economic burden.

For example, if you start hitting hotel guests with a 15% tax, if everything else stays the same presumably the number of rooms sold will decrease. So, the hotels may lower the price of a $100 room to $90 in order to limit the decline in room sales. In that situation, the hotels have taken on the lion’s share of the economic burden of the tax, even though it is technically being paid by the consumer.

So, doesn’t the producer bear part of the economic burden of the tax, no matter how you structure it in terms of how it’s presented to the consumer?

At this point, we’re about to come to a sooner-than-anticipated end. And not the end I was expecting, but perhaps a better one. I was trying to get to an acknowledgment that his consumption tax would decrease economic activity in our consumption-driven economy. Instead, my friend stepped in a pile of poop he’d laid earlier on. All three of his paragraphs are off the mark and contradict his thesis, but focus on the final sentence of the first paragraph, which I’ve emphasized in bold. It’s where the nail finally meets the elusive center of Jell-O gravity. The sentence likely seemed innocuous to him at the time he typed, but it undercut his entire argument. Essentially, he said, in no uncertain terms, that the policy change he had advocated would do absolutely zero to accomplish its stated objective.

I don’t think so.    Again the consumer is temporarily enriched by the lack of income tax and the attached withholding.    So while there will be some sticker shock psychologically, economically there should be no reduction in activity.

Also consider that most people can’t do math.   When I buy a new TV or car or hotel room I look at the advertised price.    I don’t pay the tax until I am psychologically committed or worse have already consumed.

The hotel doesn’t seem to me to need to lower the price because they are still competing in the same market and all the alternatives are equally taxed.

I chose to take the paragraphs in reverse order, wanting my response to the first to be my final comment. I could have gone straight to that point, but the other two paragraphs also were desirable targets.

I’ll take these in reverse order

Regarding your last paragraph, all the alternatives are not equally taxed. Remember, when you started down this road, the idea was to encourage saving and capital formation. So, the alternative of not taking the trip and investing the cost of the trip instead is not taxed at all. And, because there is an added incentive to save, hotel room purchasers are incented to stay at cheaper hotels, the rooms in which are not taxed as highly. So, Marriot might logically would lower its rates to mitigate the loss of room sales it otherwise would suffer from guests choosing Hampton Inn instead.

Regarding your middle paragraph, you contradicted your previous email a bit, where you stated: “All taxes should be paid 100% by the consumer.    Never by the supplier.     Why?   No hidden taxes.   People should know when they are being taxed.    Gas Cigarette and alcohol taxes are BS because no one knows they are paying taxes or how much.” If people can’t do math and don’t pay the tax until they psychologically are committed, why would you care whether they know they’re paying the tax? And if (i) the point of taxing them is to discourage consumption, and (ii) they base their decisions on the advertised price, without considering the tax, why would you not prefer the inclusion of the tax in the stated price, in order to accomplish your objective of encouraging saving?

In any case, it seems that at some point people can do math. First, if we  moved to a national consumption tax, the total tax including state level tax would exceed 20%. That’s likely a big enough chunk to impact folks. Second, even if that were not the case, the payment of the tax would reduce their remaining funds, which would impact their decision on the next purchase.

That brings me to your first paragraph. If that paragraph is correct, what have you accomplished with your substitution of a consumption tax for an income tax? The point of going from an income tax to a consumption tax was to encourage saving. But if consumption does not decrease, as you state in your first paragraph, there would not be an increase in total saving and total capital formation.

If you’re interested, my friend Polly Cleveland wrote what I think was a very thought provoking piece related to all this last year. Here’s the link:

http://inequality.org/grover-norquist-oppose-internet-sales-taxes/

The conversation came to a merciful end here, with his email back being a concession of sorts. I hope it was a learning experience for him, but somehow I doubt it.

Probably too much work to hang a lousy piece of Jell-O, huh?

7 COMMENTS

  1. In Sunday’s NY Times, N.Gegory Mankiew, a Harvard economics professor, makes a similar argument to “repeal the corporate income tax entirely, and scale back the personal income tax as well” and to replace them with a “broad-based tax on consumption.” We hear these arguments more and more, and they are generally based on making the U.S. more competitive internationally; yet according to research by Prof. Ed Kelinbard, our corporate tax rate may be officially 35% but multinationals actually pay on average less than 13%. Bob Lord’s response to his unnamed email correspondent was intelligent, informative, and respectful. I applaud his efforts to educate and enlighten rather than to ignore his correspondent’s position.

  2. Seems to me, Bob, that you wasted a lot of time arguing with someone who really didn’t have all the details on how things work. Satisfying, no doubt, but what was the end result? Neither one of you changed their mind on the subject. He was possibly chastised and probably will be more circumspect in announcing his position on subjects, but he will still vote the same. The one thing that might be different is he is probably more convinced than ever that liberals are not to be trusted and will make certain he doesn’t expose himself to their “propaganda” in the future. It is even possible that his rebuke convinced him that he needs to make bigger contributions to right wing causes in order to keep slick liberals from taking charge. The final result is most likely a more deeply entrenched conservative who, having been stung by your discussion, is only more convinced that liberals must be kept from power.

    I would never argue with you about corporate taxation because it is a complex issue and I am not near as knowledgeable as you are about it. Nor am I as agile with the written word as you, so a worthwhile discussion would be highly unlikely. What I can tell you is that, when I read many of your facts, common sense tells me that reality is not so cut and dried. Economics is very complex and simple straight forward answers are rare, yet many of your assertions make it seem so. One of the reason tax lawyers and accountants are in demand is to find ways to avoid corporate taxes as much as possible. Which brings me to ask: How did you reconcile your desire for taxation with your obligation to minimize the taxes paid by you clients?

    • I can’t answer everything you’ve raised, some of which seems off point.

      But as far as reconciling what I do as a lawyer with my personal views, the reconciliation is not difficult. The overlap between tax practice and tax policy is relatively narrow. The IRS and the Arizona Department of revenue are governmental agencies. As such, they are capable of overreach. A large part of what I do as a tax lawyer is to protect from IRS overreach.

      You may want to google Randolph Paul. He was a giant as a tax lawyer, but also was Roosevelt’s point person on tax policy.

    • In Sunday’s NY Times, N.Gegory Mankiew, a Harvard economics professor, makes a similar argument to “repeal the corporate income tax entirely, and scale back the personal income tax as well” and to replace them with a “broad-based tax on consumption.” We hear these arguments more and more frequently, and they are generally based on making the U.S. more competitive internationally; yet according to research by Prof. Ed Kelinbard, our corporate tax rate may be officially 35% but multinationals actually pay on average less than 13%. Bob Lord’s response to his unnamed email correspondent was intelligent, informative, and respectful. I applaud his efforts to educate and enlighten rather than to ignore his correspondent’s position.

      • Bob is always polite, informative and respectful. He is a good man and I very much enjoy his posts. I am one of this sites Trolls, and Bob is still respectful towards me. I was only making an observation that he used his professional knowedge and excellent writing skills against an inferior opponent who is probably even more convinced that liberals are evil and sneaky. That’s all.

        • Steve, I appreciate the compliment, bu beg to differ on substance. If you look at the email trail, you’ll see that I shared my knowledge of the tax law whenever it was relevant. The focus of the debate was not tax law, but tax policy. As for my writing skills, I don’t know if they were superior to his. We both were hammering out emails pretty fast, with little attention to style. He and I both have been published in our respective fields, so I don’t think the debate went my way because of superior writing skills. I submit to you that the reason for the result was expedience. He said whatever he thought furthered his position at the time. He ultimately ran into a contradiction by doing so.

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