Tax Panel to Offer Bush Two Overhaul Plans

President Bush’s tax restructuring panel settled Tuesday on two approaches to simplifying the federal tax code, one that would preserve the income tax but scale back its tax breaks and one that would exclude investment income from taxation.

Both approaches would do away with the alternative minimum tax, which was aimed at wealthy taxpayers but is forcing increasing numbers of the upper middle class to pay more on April 15.

Both would also limit the mortgage interest deduction and eliminate the deduction for payments of state and local income and property taxes.

Some panel members expressed concern that either plan would make the system less progressive by shifting more of the tax burden from the wealthy to the less well-heeled.

For example, Elizabeth Garrett, a USC law professor, said she was not satisfied with the current tax code’s progressivity -- the degree to which taxpayers pay a higher share as their income increases -- and added that she needed to see hard data on the effect of the panel’s two new plans.

California Treasurer Phil Angelides called the recommendations to scale back the mortgage interest deduction and to kill the state and local tax deduction “a double-barreled blast aimed squarely at California and the middle class.” California, he said, has unusually high home values and state and local taxes.

“People making under $100,000 are going to be paying more,” Angelides said. People making more, he said, will generally pay less.

Sen. Dianne Feinstein added her voice to those of other California Democrats who objected to the recommendations, saying they could “trigger a devastating trend of mortgage defaults.”

And the Free Enterprise Fund, a nonprofit advocacy group promoting smaller government, said the proposals would enrich the already wealthy at the expense of the middle class. Phil Kerpen, the group’s policy director, said the proposals “fail the test of being real, fundamental tax reform.”

But panel member Charles O. Rossotti, who headed the Internal Revenue Service from 1997 to 2002, said, “For most people, the bottom line is going to be about the same.”

The nine-member President’s Advisory Panel on Federal Tax Reform, headed by two former senators, Connie Mack (R-Fla.) and John B. Breaux (D-La.), was asked by Bush to produce alternatives to the current tax system that would be simple and fair and promote economic growth without gaining or losing revenue.

The panel plans to fill out the details of its two recommendations and send them to Treasury Secretary John W. Snow by Nov. 1. Breaux said he hoped that Bush would turn the panel’s recommendations into a proposal of his own in time for his State of the Union address in January and that Congress could work on revising the tax system next year.

Bush had instructed his tax overhaul panel to let at least one of its options build on today’s income tax system. The first option, which it dubbed the simplified income tax, filled that bill.

It would target some of the tax code’s most popular provisions. The exclusion of employer-provided health benefits would be capped at $11,500 a year -- the value of the health plan for members of Congress.

Workers without plans from their employer would get the same deal for buying private insurance.

The home mortgage deduction would be converted to a tax credit worth 15% of mortgage interest payments up to the local maximum mortgage that the Federal Housing Administration will insure (ranging from about $172,000 in many areas of the country to as much as $312,000 in Southern California). The credit would be equal to 15% of mortgage interest and thus would be equal in value to the deduction for taxpayers in the 15% bracket but worth less than the deduction for taxpayers in higher brackets.

The exclusion from taxation of profit on the sale of a home would be increased from $500,000 to $600,000 and adjusted annually for inflation.

All taxpayers, not just those who itemize, would be eligible for the charitable deduction, but only if their contributions exceeded 1% of their income.

Today’s welter of tax-advantaged savings accounts would be reduced to four, including one at work, one for retirement and one for family expenses, such as health and education. Capital gains would be taxed as ordinary income.

The simplifications, panel members said, would reduce IRS Form 1040 from two pages to one and slash from 52 to 10 the number of associated schedules and worksheets.

The panel informally dubbed its second option the progressive consumption tax. In reality, it was more like the simplified income tax with an exclusion for earnings from investment.

“The primary benefit of any consumption tax is its effect on savings and investment,” said panel member Liz Ann Sonders, chief investment strategist for Charles Schwab & Co.

Breaux and other panel members raised the specter of rich individuals who lived off the profits of their investments and paid no taxes.

Taxable income would fall into brackets of 15%, 25%, 30% and 35%. Deductions and credits would be similar to those for the simplified income tax, but the healthcare exclusion could be limited to $8,400.

Businesses would pay a flat 32%. They would deduct the expenses of all capital investments in the year they were made rather than depreciate them over a period of years.