Tax expenditure budget and related policies


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Tax expenditure budget and related policies
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Table of Contents
    Front Cover
        Page i
        Page ii
    Table of Contents
        Page iii
        Page iv
    Senator Mondale
        Page 1
    Senator Moss
        Page 2
        Page 3
    Witnesses and supplemental material
        Page 4
        Page 5
        Page 6
        Page 7
        Page 8
        Page 9
        Page 10
        Page 11
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    Back Cover
        Page 123
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Full Text


Se m i n ar
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((i f "1 i. -






MARCH 8, 1976

Printed for the use of the Committee on the Budget




EDMUND S. MUSKIE, Maine, Chairman

ERNEST F. HOLLINGS, South Carolina
JOSEPH R. BIDEN, JR., Delaware
SAM NUNN, Georgia

J. GLENN BEALL, JR., Maryland
Pl:TE V. DOMENI:CI, New Mexico

DOUGLAS J. BENNET, Jr., Staff Director
JOHN T. McEvoY, Chief Counsel
ROBERT S. BOYD, Minority IStaff Director
W. THOMAS FOXWELL, Director of Publications

WALTER F. MONDALE, Minnesota, Chairman

JOSEPH R. BIDEN, JR., Delaware

J. GLENN BEALL, JR., Maryland

BERT CARP, Task Force Coordinator



Senator Mondale---------------------------------------------------- 1
Senator Moss------------------------------------------------------- 2


Bade, Carl A., secretary, United Church Board for Homeland Ministries__ 15, 47
Bannon, Joan, assistant director, Council on National Priorities and
Resources -----------------------------------------------------15,22
Cahoon, C. Raymond, tax legislative adviser, Mobil Oil Corp., and chair-
man, Tax Impact Project Task Force, National Association of Manufac-
turers ------------------------------------------------------------ 4
Cantor, Arnold, assistant director of research, AFL-CIO; accompanied
by Ray Dennison, legislative department----------------------------- 15
Massa III, Cliff, director of taxation, National Association of Manufac-
turers ----------------------------------------------------------- 4
Ture, Norman B., president, Norman B. Ture, Inc., economic consultant,
National Association of Manufacturers------------------------------ 4
Young, Howard, special consultant to the president, United Auto Workers- 15,19


National Association of Manufacturers, "Tax Impact Project Report"--.... 56
United Church of Christ, "Sharing the Cost of Government Fairly"-------- 102
American Public Power Association, statement------------------------- 104
Richard H. Williamson and Edward J. Hanrahan, U.S. Energy Research
and Development Administration, "Energy Requirements and Federal
Policy Action," presentation to the American Nuclear Society Winter
Meeting, San Francisco, Calif., November 19, 1975-------------------- 111
AFL-CIO Executive Council, "Tax Justice," statement----------------- 18

"Key Treasury Aide: Utility Earnings Up Too Fast To Expect Much
Tax Help," Electrical Week, February 9, 1976-------------------- 115
Jerry Edgerton, "This Week in Energy Financing," Weekly Energy
Report, February 9, 1976-------------------------------------- 115


Digitized by the Internet Archive
in 2013


Washington, D.C.
The task force met, pursuant to notice, at 10:07 a.m., in room 357,
Russell Senate Office Building, Hon. Walter F. Mondale (chairman of
the task force) presiding.
Present: Senator Mondale.
Staff imeiiembers present: Bert Carp, task force coordinator; Ira Tan-
nenbaum tax counsel; Ted Haggart. minority staff member.
Senator MONDALE. The meeting will come to order.
Senator Moss asked that a statement by him be placed in the record.
It will be.
Senator MONDALE. In preparing the revenue target in the first con-
current budget resolution for fiscal year 1977, the Budget Committee
must consider three key questions.
The first is the amount of revenue to be expected under current law.
The second is whether additional tax cuts are needed to spur eco-
nomilic recovery.
The third is the amount of revenue gain or lose to be expected in the
next year from legislation modifying the tax expenditure budget and
related tax policies. This third question-the subject of today's hear-
ing-is especially important to the budget for fiscal year 1977, in view
of the probability that a major tax bill will pass the Congrevs this year.

The House of Representatives-which under the Constitution must
act first on revenue legislation-last December sent to the Senate H.R.
10612, the "Tax Reform Act."
That bill contains structural provisions which would increase reve-
nues in fiscal year 1977 by s3.3 billion, accompanied by provisions
which would reduce fiscal year 1977 revenues by $1.7 billion. The net
revenue gain from the House-passed bill would be $1.6 billion.
However, it is important to note that the House bill would make a
number of crucial provisions effective retroactively, as of last Janu-
ary 1. If these provisions were made effective next January, the revenue
gain in the coming fiscal year would be negligible.

In addit ion, the Senate Finance Committee has completed its budget
reconilmendations, which allocate $20 billion in fiscal year 1977 for net
tax cuts below the levels provided in permanent 1974 law. This amount
would allow continuation of last year's temporary tax cuts at a cost
of $17 billion, and $3 billion in further reductions. Additional tax re-
ductions would be available under this recommendation oily if offset
by other revenue-gaining action.
We also have before us the President's budget, which proposes a tax
cut of $28 billion below 1974 law, and which proposes elimination of
only one tax expenditure-the earned income credit designed to bring
modest relief to low-income working families with children.

It is important to bear in mind that the Budget Committee's role in
the tax debate this year is a delicate one. Under the Budget Act, we
must recommend a revenue targ'et-and to reach that target we must
estimate both tax cuts and offsetting tax increases. In our report we
must break the revenue target down among sources of revenue-per-
sonal income taxes, corporate income taxes, payroll taxes, excise taxes.
And over the long term we are responsible for helping the Congress to
analyze the relationship of tax expenditures and policies to the direct
progr: iis of the budget.
But we are not responsible, in the first concurrent budget resolution
for this year, for designing the revenue bill which will come before
the Congress within the next 4 months. Designing that bill, within the
fraiiework -et by the budget resolution, will be the work of the
Finance and Ways and Means Committees, and of the Congress as a
whole as revenue bills come to the House and Senate floors.

The Congressional Budget and Impoundment Act of 1974 etab-
lished an improved conTgressional budget process for determining
national spending and revenue policy priorities. Under that act, the
Budget Committee must develop and recommend to the Senate a first
concurrent budget resolution by April 15. The budget re-olution will
set Congress' fiscal policy and budget priorities for the coming fiscal
year. It will also set targets for spending, revenues, and the budget sur-
plus or deficit which is appropriate in light of economic conditions and
other factors.
The d(-ign of the revenue bill is the responsibility of the House
Ways and Means Committee and the Senate Finance Committee. The
Budget Committee's responsibility is to recommend a revenue target.
In order to reach that target, of course, we must estimate both tax
cuts and offsetting tax increases. Our report must consider revenues
from all the various sources.
In developing a revenue estimate, the committee must consider three
things: Revenue estimates under current law; revenues resulting from
proposed tax law changes, in macroeconomic terms; and revenues (in-
creases and decreases) resulting from structural changes in law.

In focusing on the third item, the committee's consideration must
include: (1) What changes in law are expected to be enacted
that would affect revenues in this time period? and (2) what would
be their effect on revenues?
Such a determination will be influenced by the outcome of the
-H.R. 10162, the "Tax Reform Act" pas-sed by the House last
December and sent it to the Senate. That bill contains struc-
tuiral provisions which would increase some revenues and re-
duce others for a net revenue gain of $1.6 billion. The House
bill is under consideration by the Senate Finance Committee.
-The President's budget which proposes a tax cut of $28 billion
below 1974 law, and proposes elimination of the earned in-
come credit-a tax expenditure-designed to bring relief to
low income working families with children.
To assist us in reaching a better understanding as to what we can
expect in revenues, we have the Senate Finance Committee's report to
the Budget Committee in accordance with the Budget Act. The
Finance Committee's recommendations include allocation of $20 bil-
lion in fiscal year 1977 for net tax cuts below the levels provided in the
permanent law-1974. This amount assumes continuation of last year's
temporary tax cut at a cost of $17 billion and an additional $3 billion
reduction. Under this recommendation, the additional tax reductions
would be available only if offset by other actions which produce
From a revenue viewpoint, the tax legislation which ultimately
passes Congress is important not only in terms of the structural
changes but the timing-the effective date of the changes-as well.
The first level estimates of budget revenues and expenditures-used
by the administration and the Congress-have traditionally excluded
the "ripple effects" through the economy. Is this realistic? Should such
estimates be made more comprehensive?

The Budget Control Act also requires that, beginning with the fiscal
1977 budget, tax expenditures be considered at each step of the new
congressional budget process. This requirement stems from a recogni-
tion that numerous provisions of Federal tax law confer benefits on
some individuals and institutions that are comparable to direct Federal
spending, but that these tax law benefits seldom are reviewed, in com-
parison with direct spending programs.
The concept of tax expenditures is a relatively new one which is still
in the process of bein-r refined, both with respect to the provisions
classified as tax expenditures and the methods of calculating the reve-
nue losses stemming from such provisions. Nevertheless, failure to
take tax expenditures-which now afregate about $100 billion in
Federal funds-into account in the budget process now would be to
overlook significant se-ments of Federal policy.
Tax expenditures are instruments of public policy and generally can
be viewed as alternatives to other fiscal actions such as direct outlays
and credit programs. In fact, many such programs operate in the same
areas as expenditures from the Federal budget. Consequently, the

Budget Act wisely requires that they now be included in the budget-
the central document dealing with Government resource allocation.
Almno-t all tax expenditures serve either to encourage particular eco-
nomic activities (e.g., business investment, personal investment, spend-
ing by State and local governments and support of charities), or to
reduce the taxes of persons considered to be in adverse circumstances
(e.g., those with large medical expenses).
Thus, tax expenditures are not only important from an economic or
budgetary viewpoint, but they carry significant social considerations
which must not be overlooked.
I am pleased to join Chairman Mondale in welcoming today's wit-
nesses and look forward to receiving their views on this important
subject which is of significance to the outcome of the budget proee?.
Senator MONDALE. We look forward to hearing from today's wit-
nesses. Our first witness, representing the National Association for
Manufacturers, will be Mr. C. Raymond Cahoon, accompanied by Dr.
Norman Ture and Mr. Cliff Massa.



Mr. CAHOON. As you stated, I am C. Raymond Cahoon, and I might
add, Senator, I have had the pleasure of appearing before you before
this in connection with your capacity as chairman of the Senate
Finance Committee's Subcommittee on State Taxation of Interstate
Senator MONDALE. Where we made marvelous progress.
Mfr. CAIHOON. Maybe we will do better with this one.
As you stated, on my right is Mr. Massa of the NAM and Dr. Tuire
who is a consultant here in Washington and who we have now just
taken on to work with us on this project that I am about to talk about.

In this regard we are interested in the Finance Committee's report
on a bill containing provisions of capital formation which we under-
stand and I think you just stated shows so-called revenue losses of 83
billion. This brings me to the subject which is of particular concern
to the NAM which we believe your task force should very seriously
consider: Is the traditional revenue estimate an adequate measure of
the impact of tax propo-als in the capital formation area or of any
other tax propo-:l s for that matter ?
In discussing your invitation to testify with your staff we noted our
interest in discussing questions in this area, namely what type of
economic impact analysis should be taken with respect to tax proposals,
are traditional forms of revenue impact sufficient or are they even

reliable indications of the effects of tax changes. It was suggested
that this was certainly an area which should be explored and we were
invited to begin that exploration with you today. Our presentation
will therefore be limited to this general area.

In brief, our view is that the traditional revenue estimate is inade-
quate at best and completely misleading at the worst. This discussion
will indicate why we hold this view and what we are trying to do to
stimulate public discussion in this area. This subject is of significance
to the budget, process, and therefore to this task force, as well as to
the tax legislative process, because revenue estimates must be
developed in assessing how tax legislation will affect expected Federal
receipts, the budget deficit (or surplus) and national fiscal policy.
Up until the creation of the new congressional budget process-
including the budget committees and the Congressional Budget Office
-the only congressional interest in questions about the effects of tax
changes on total Federal revenues was found in the two tax-writing
committees. The Senate Finance Committee and the House Ways and
Means Committees historically have prepared and reported bills with
detailed estimates as to the revenue "gains and losses" which various
provisions would cause. These estimates very often are used to support
or oppose particular policy positions, depending on what the estimates
The procedure used to arrive at such revenue estimates is based on
the assumption that tax changes occur in a vacuum and that taxpayer's
behavior will not be altered in response to those changes. By making
that assumption, the estimator is then able to calculate how the tax
change will affect anticipated tax revenues, according to the levels
of income expected in the coming years. This can be called an initial
impact revenue estimate. To briefly illustrate, assuming an expected
$100 billion in taxable corporate income, a 10 percentage point reduc-
tion in the corporate rate would be estimated to result in a $10 billion
revenue loss, but have no effect on the level of taxable income, cur-
rently or in the future.
This initial impact figure is the type of estimate which traditionally
has been prepared and discussed by the Staff of the Joint Committee
on Internal Revenue Taxation, working for the congressional tax
committees, and by the Treasury Department.
At this point I should emphasize that the concerns which we have
do not reflect on the excellent quality of work performed by the Joint
Committee Staff or by the Treasury, but rather with the limitations
which the basic procedure itself imposes on the analysis provided. As
to the procedure, it has the advantage of being relatively simple to
calculate and difficult to dispute as to its mathematical accuracy. It
has been used with tax legislation for decades. In recent years, its use
has spread to the annual listing of tax expenditures and how much
they cost in terms of foregone tax revenues.
Beginning with your trial run of the budget process for fiscal 1976
and now continuing into your first required use of that process, the
revenue estimate takes on yet another responsibility. It is being used

in determining what tax legislation can be enacted to raise or lower
anticipated revenues to the level fixed by the budget process. The
foremost example to date was last yea r's Ways and Means Committee's
consideration of the DISC provisions. One of the principal arguments
for full repeal was to pick up the $1 billion in revenue required by
the conference committee resolution. Used in this fashion, the initial
impact revenue estimates are about to become an even more significant
national economic policy mechanism.

The NAM believes that the initial impact revenue estimates are
inadequate and has undertaken a special effort, which will be de-
scribed later, to develop more comprehensive approaches to analyzing
tax changes. Because the congressional budget structure is new and
is not tied to one way of doing things, we encourage you also to ta!e
a critical look at the traditional revenue estimate to determine how
reliable and useful it is.
Senator MONDALE. I might interrupt there to say we have counsel
who does exactly that, our chief economist Arnie Packer.
Mr. CAHOON. Possibly we could be more helpful to him and work
with him.

The business community's concern stems from a questioning of the
Iasic assumDtion underlying the traditional procedure-namely, that
tax changes take place in a vacuum and that taxpayers do not react
to tax changes. We simply do not believe that it is reasonable to
assume that tax policy does not affect economic activity in significant
ways beyond the tax liability of separate taxpayers. We believe that
it affects investment, employment and output throughout the economy,
and these feedback effects of changes in tax policy can override the
assumed revenue impact, resulting quite possibly in a totally opposite
We strongly believe that a broader type of analysis should ac-
company tax legislation, analysis which indicates the nature and
the magnitude of the effects on various segments of the economy.
These effects should be taken into account in developing net revenue
impact numbers-that is, initial impact offset by the feedback-which
would be of more use to you in the Congress than initial impact num-
bers, particularly in assessing the long-term desirability of proposed
changes. Certainly, there will be differences of opinion as to what
secondary or feedback effects will follow a change and as to how to
estimate them at different stages of the business cycle.

Senator MONDALE. The whole idea of the so-called tax expenditure
approach is to do just what you argue should be done-take a look
at each preference and ask, "What do we buy for it ?"-just as we
are required in this law to take a look at each appropriation, say,
"Is this beneficial, can we afford it, how effective is it?" In effect we

are asked to appropriations and so-called tax expenditures in the
same pot for purposes of the evaluating process.
Mr. CAHOON. We are certainly agreeing with the desirability o,f
doing that and we are kind of floundering around to try to find a good
way with the computer expertise that we all have today to do this very
thing. I guLess we have more or less come to agreement that there cer-
tainly will be differences of opinion as to what those effects are, but
again I emphasize that there should be no question about the fact that
this really should be done. Here are the reasons really:

During the past 60 years, the individual rate structure has grown to
a minimum of 14 percent and a maximum of 70 percent on unearned
income, approximately 12 times the comparable 1913 rates. The maxi-
mum rate is now 48 percent on corporate income, making the Fed-
eral Government virtually the equivalent of a 50 percent preferred
shareholder in this country's largest business enterprises. Obviously,
the existing Federal income tax giant now plays a very significant
role in the functioning of our economy.
Businesses and individuals alike make their investment and spend-
ing plans on the basis of many factors. Too often overlooked is that
taxes enter into these decisions not only by affecting spendable income
but also by changing the costs of alternative courses of action.
We believe that the existing tax structure is strongly biased against
savings and investing and toward consumption, and the results of this
bias a re reflected in the economy's low rates of capital formation and
productivity increases. Changes in the tax laws to reduce this anti-
saving, anti-investment, bias would result in greater increases in capi-
tal outlays and in the stock of capital than the economy would other-
wise achieve. These greater increases have not only a direct impact in
expanding output, jobs, and incomes, they also have a longer-lasting
effect in increasing the amount o,f capital with which employees work.
This, in turn, increases their productivity, the number of jobs, and
real wage rates. As business and individual income rise. the Federal
Government's tax base also expands. The initial revenue loss from the
tax change, as traditionally estimated, diminishes and turns into a
revenue gain.
The initial impact estimates do not take account of any of these
expansionary responses to tax changes which reduce the antisavino
and investing bias; instead they assume that nothing happens. Using
my first example of a $10 billion corporate tax cut, the traditional
revenue estimate says, in effect, that the money simply disappears.

Because we feel so strongly about the inadequacies of traditional
revenue estimates, the NAM's Committee on Taxation undertook a
special project to study the development of other approaches. The
first product of our tax impact project task force was tihe TIP report,
the second printing of which is attached to this statement.1
1 See p. 56.

Combining long-term and short-term goals, the TIP report was
undertaken with three general objectives in mind. They were:
-To begin the development of a method of estimating the over-
all economic impact of business-related tax proposals in
-To develop economic impact estimates for specific proposals
which might arise in 1975, the year of the report's issuance.
-To lay the groundwork for the possible development of a con-
tinuing project which could assess very rapidly the economic
impact of any major tax proposal.
We recognize that the tax imilp.ct project represents only one of a
number of possible approaches to the economic analysis of tax pro-
posals. This type of analysis is intended to indicate the direction and
the order of magnitude of the impact of the tax changes which were
studied, not precise economic forecasts.
To stimulate further such discussion, the NAM is sponsoring a
1-day public conference in Washiniton on Tueday, April 20. At lea-t
one person from the staff of each member of the congressional Budget
and Tax Committees has been invited to attend, along with persons
on the committee staffs. We believe that this will be a very informa-
tive and enlightening program, and we strongly urge you to be sure
that your offices are well represented. Everyone in attendance will be
able to take part in questions and discussions with the program
To illustrate the differing results between traditional revenue esti-
matinuw and the type of economic impact analysis which we are trying
to encourage, consider one major provision of the House-passed tax
bill, IL.R. 10612, which the Finance Committee is likely to adopt-
namely, an extension of the 10-percent investment tax credit. The 10-
percent credit has been in effect since 1975 and the proposed extension
would run through 1980. Initial impact revenue estimates indicate a
]ossl of n e hotl 1980. Ti.-a,
loss of $3.3 billion in 1977, $3.4 billion in 1978, $.,.6 billion in 1979, and
$3.7 billion iu 1980. On the other hand, the TIP report, table 1 on
paze 1.1 shows net revenue losses of $1.8 billion in 1977, $1.6 billion in
1978, $1.4 billion in 1979. $700 million in 1980. In 1981. there would
be a revenue pickup of $300 million, which would increase in later
years. In addition, it shows a net increase in employment of 340,000
jobs over the same period. All of this based on the very conservative
assunmiption that the full impact of the 1975 increase in the credit
would take 18 months to be effective. It is more likely that the net
revenue increase and job creation occurs much faster.

We are encouraged by signs of interest in this subject in the Coin-
gress, in the executive and in nongovernmental groups. NAM has
alre,,dy testified specifically about TIP to the Senate Select Corn-
mittee on Small Business. The Manufacturing Chemists Association
released a report in 1975 entitled "Taxation and Jobs: An Impact
Survey" in which tax changes were studied in terms of their impact
1 See p. 64.

on investments for expanding employment in that industry. During
their 1975 markup of a tax bill, the House Ways and Means Com-
mittee looked at DISC in terms of its effects on exports and employ-
menit, besides its initial revenue impact. The Senate Finance Com-
mittee's report late last year on the tax cut extension included a table
showing the estimated impact which the cuts would have on GNP,
unemployment, prices and industrial output if extended through 1977.
In the special analysis on tax expenditures from the President's budget
for fiscal 1977, it is noted that:
The second major assumption used to make the [tax expenditure] estimates
is that taxpayer behavior and general economic conditions remain unchanged in
response to the hypothetical change in the tax laws. This assumption is required
to estimate tax expenditures but it is, in most cases, unrealistic.- (Special
Analyses, Budget of the U.S. Government, Fiscal Year 1977, p. 122.)
From conversations with Treasury officials, we are aware that they
are interested in developing more comprehensive techniques for public
exposure. Dr. Ture has used this concept in many situations, such as
in his economic impact analysis of the various provisions of the Jobs
Creation Act sponsored by Rep. Kemp (R-N.Y.) and 100 other House
Tax policy is economic policy and, as such, its overall impact should
be considered. We do not believe that traditional revenue estimates
are either complete or even very informative in this regard. An effort
is being made to develop a more comprehensive approach, and we
encourage the Congress to take part in this effort.

Senator MONDALE. Thank you very much.
In compiling the data for your tax impact project, you assumed
there was an 18-month interim period between the tax change and the
secondary feedback effect.
If the tax reform is made effective during fiscal year 1977, would not
the feedback effect be negligible within the fiscal year?
Mr. CAHOON. In doing the project, sir, we deliberately took that
very conservative approach. In other words, how long does it take,
for a company, in learning of the change and knowing that it is the
law, to make their planning and gear up for the change. Of course,
that varies terribly among companies. We feel we are going very much
on the conservative side by picking the 18 months.
Senator MONDALE. But it would be the effect if the tax reform
was made effective in fiscal year 1977, feedback effects in fiscal year
1977 would be negligible?
Dr. TURE. I think not, sir. I would have to agree with Mr. Cahoon
that the TIP project assumption of an 18-month response period
was excessively long. It was done in the interest of taking a very
conservative estimating approach, but all the indications I know of
suggest a much quicker response on the part of the business com-
munity. I think you ought to look for very substantial effects within
1 year after enactment on the assumption that your proposal is some-
thing that people can count on.

Mr. CAHoox. That is the important thing, sir. As you know, there
has been much criticism of the off-again-on-again effects of the invest-
ment credit. I certainly concur with what Dr. Ture just siid.

Senator MONDALE. If it is valid to include in the budget the cecond-
ary effects of the tax change, is it not also valid to include the second-
ary effects in the changes of Government expenditures? When the
budget includes transfer payments to be made to individuals, should
we not seek to assess the effects such payments would have on indi-
vidual aggregate consumption, savings, national income and employ-
Dr. TURE. Senator, if, in fact, there is an effective way of estimating
those effects, they certainly should be included. The problem is there
are wide disagreements among people who try to make such estimates
as to what is likely to happen and the effects will wander all over
the place.
Senator MONDALE. Aren't they identical problems?
Dr. TURE. Conceptually they are very much the same thing, but it
doesn't necessarily follow the results are the same. There are a lot of
econometrice analyses that show that the effects of an increase in
Government expenditures on total demand and total income are very.
very short lived, something like a quarter or two quarters, and then
it is offset by an equal negative effect so that something like over a
fiscal year's time the effects wash out to a zero.
I personally will not attest to the validity of those analyses. I was
not involved in their preparation. But the results don't seem to me
from a theoretical point of view to be particularly unlikely. There
are quite different effects associated with tax changes. Those are
effects that deal with changes in the relative prices of alternative
courses of action. They may involve very, very substantial shifts in
the allocation of resources which may have much, much longer-lasting
effects, hopefully so.

Senator MONDALE. In calculating the secondary effects of changes
in the tax laws relating to foreign-source income, you have assumed
that a corporation's domestic income varies directly in proportion to
its foreign income. Is not this assumption open to question in light
of recent studies such as those by Professor Mus rave that suggest
that foreign investment is undertaken as an alternative to domestic
investment ?
Mr. MASSA. Senator. we recognize that the assumptions that were
made with respect to the foreign-source income changes were consid-
erably open to question. The TIP report's assumption that any
changes in foreign versus domestic investments as a result of tax
policy changes would be the same is subject to question. However.
this is not so much on the basis of the studies which Professor uIs-
grave has done, because as I recall in the last study which she sub-
mitted to the Senate Foreign Relations Committees she states. either
in the summary or the report itself, that it is just an assumption that

foreign investment takes place at the expense of domestic investment
and if foreign investment were not available or open that domestic
investment would necessarily be increased.
We do recognize that our assumption is open to question and there-
fore the foreign-source income provisions of the TIP report are a
little less reliable. However, we think that it is important to begin
in the foreign source income area also to try to develop some way for
estimating what the impact of tax changes would be. We think it is
more important to recognize the concept of needing to do this type
of analysis in the foreign area than to swear by the particular numbers
that are here.
Senator MONDALE. Does the NAM believe that there should be
business and personal tax cuts beyond the extension of the 1975
temporary cuts if this would cause an increase in the President's $43-
billion deficit target?
Mr. MASSA. Our problem. Senator, with answering that question
directly is whether or not we believe that the tax cuts are going to
result in a large increase in the budget deficit.
As we have been discussing this morning, particularly with major
tax cuts that would affect individuals' elections to save versus consume
and the corporate community's ability to make investments, we think
that a number of major tax reforms which we support, both in the
individual and corporate area, even if they had an initial revenue
impact in the first year, would be worth the small increase in the
deficits, because the long term impact is going to be to increase the
Federal revenue base and also to increase the economy's ability to put
its resources and its labor force to work.
So I suppose we have to get down to particular proposals which
we are not prepared to do this morning.
As a general statement, we don't think tax reductions should be
foregone simply because the initial impact revenue estimates would
say that you are going to add five or ten billion dollars to the deficit
because we strongly question the validity of those estimates.

Senator 3MONDALE. Does that put the NAM in the big-spender
category ?
Mr. CAHOON. I was going to add, Senator, that is not to say that
we don't concur in the effort to put a lid on spending. We think that
both can be done but we think that realistically-
Senator MONDALE. Take it out of something else, right?
Mr. CAHOON. Looking at the spending realistically, you have to
have a good focus on exactly what the revenue pact is.
Senator MONDALE. Do you have an opinion about which tax prefer-
ences-investment credits, corporate rate cuts, personal tax cuts, would
be most effective in stimulating recovery or do you recommend a mixed
approach at this time ?
Mr. CAHOON. That goes to NAM policy so I will go to Dr. Ture or
Mr. Massa to answer that.

Mr. MLAssA.. The recommendations which we are going to make to the
Senate Finance Committee in the testimony later this month center on
tax reductions and tax reforms affecting the busini--s community prin-
cipally, because that is our constituency. We will recommend a number
of items, principally the extension of reductions which have already
been made, nanmely the s-nall business tax provisions, like the corporate
surtax exemption, and an extension of the 10-percent investment tax
credit, partly and, in fact, largely because of the facts which Mr. Ca-
lieool Ifls mentioned, that is the desirability of li:.vinig that type of pro-
vision permanent if it is going to be fully useful.

We do think it is necessary to go beyond those provisions because
there are a number of other areas of the Internal Revenue Code affect-
ing business income which need reform.
One of them is the capital recovery allowance area, the whole concept
of recovering invested capital. Others are pollution control expendi-
tures, and a general rate reduction.
In the individual area, we think that reforms which would affect
individuals' decisions on consu-inpti0on versus savings are going to be
important. Without endorsing any concepts, I know Dr. Ture is inter-
ested in reforms affecting individuals in terms of a tax credit for their
net increa- es in savings during the year. I know Senator Long is con-
siderably interested in the ESOP concept, so we are not limiting our-
selves to saying that the specific proposals we will make will be suffi-
cient and will undo all of our problems.
A general change in tax policy as it affects investments and savings
is desirable. As I understand it, not being a trained economist but I
think Dr. Ture might comment on this, to the extent that you can in-
crease the economy's overall savings, it may not make so much differ-
ence whether the particular tax cut affects the corporate rate or the
investment tax credit or a person's individual savings or whatever.
So a number of changes could take place that would be helpful to
the economy over the long term.
Mr. CAHOON. Dr. Ture has a rather intriguing suggestion, although
we have not planned on talking about it. If you would bear with him
for a few minutes. I think it is something you would be interested in.
Dr. TURE. Thank you.

Let me preface that description by responding to your question di-
rectly as to the immediacy of the focus of tax changes. To be sure, we
are all concerned about extending and strengthening the recovery
which the economy is now experiencing. There is a hazard that we
focus exclusively on that and ignore what our long-run concerns are.
The problems are not unrelated. One can argue, but I think that vir-
tually everyone will agree about this, that if in fact we can undertake
tax changes which have the effect of getting anybody in the economy
to increase spending, no matter for what, that is likely to have an ex-
pansionary effect on GNP, employment and real incomes.

The question is what kinds of spending do we want to have increased
at this point in terms of long-run considerations. For the longer run
what we are all, I think, most concerned with is making sure that we
can at least maintain the postwar trend rate of increase in produc-
tivity, employment, and in real wage rates. In order to be able to assure
that, with all of the demands that are going to be imposed on the
business community for capital formation, it becomes extremely im-
portant to make sure that there are the real resour,.c available to
finance those capital additions which go directly into increasing the
productivity of the worker.

Senator MONDALE. Does that include appropriations to educate
people better ?
Dr. TuIRE. The kind of expenditure that is relevant is that which
will expand the total capital in the economy, tangible and nontangible,
human and nonhuman. The addition of a modest amount of education
that an increase in the appropriations can make I think is probably
very slight in contrast with very substantial increases in productivity
that are associated with increasing physical plants.
Senator MONDALE. Aren't there any number of economic studies
showing that our wealth today is heavily the result of our investments
in education?
Let's take the energy problem. Think of the impact we can have if
we develop new sources of energy. I just read the other day where
somebody developed a light bulb that might have a revolutionary
impact on energy consumption, and I assume that he went to school
somewhere and I assume the public paid for his education or most of
it and for the research that went into his discovery. When we look at
the need for investment capital don't we also have to bear in mind the
need for appropriate investment in human technological development?

Dr. TURE. Certainly, sir. I doubt that Dr. Dennison will attribute
the capacity of the gentleman who discovered this new light bulb to the
public educational process. I think that is a much more highly spe-
cialized kind of education that comes in on-the-job training, which is
a kind of investment, indeed, in human capital and not to be neglected,
it seems to me, is a tax policy which assures that the business commu-
nity will continue to increase its capital outlays sufficiently to main-
tain rising capital-labor ratios.

As Mr. Cahoon and Mr. Massa indicated, there is no one specific
tax change that is guaranteed to do that or is superior in doing that
rather than any other. The big problem is to increase the total saving
rate in this country. That can be achieved in dozens of ways, one of
which I would commend to your attention. This has been a long way
around to get to what Mr. Cahoon suggested I tell you about.
This is a proposal to provide a tax credit for individuals who
increase their savings during the course of a year, increase the net

amount of their saving; in order to assure that it would not be iiierelv
a tax advantage for upper-income individuals, the proposal calls for
a cap on the amount of the credit, not to exceed $1,000 on a sinle
return or $.2,000 on a joint return. The credit would be available at
10 percent of the amount of the increase in such savings.
If you look at the Internal Revenue Service's statistics of income,
you find, interestingly enough, that a very, very suIbstanltial part of
lithe returns on savings were reported on those income tax returns
and, therefore, indicating the substantial part of -avings was under-
taken by individuals, with adjusted gross incomes of $20,000 or less.
It seems to me that a proposal of this sort would not be subject to
tle charge that it was directed to fat cats or upper income individuals
but would be available for taxpayers generally. I think that the
favorable coii-equences of this in terms of the response of individuals
to increase their savings, reduce the cost of capital, increase the rates
of capital formation, and, in time, and not a very long time either, to
increase the rates of productivity advance and real wage rates would
be substantial.
Senator MONDALE. Thank you very much.

Mr. CAIHOON. If I could, sir, I might ask Dr. Ture to just add one
more comment as to the types of savings we are talking about, because
it is a broad spectrum and possibly if you would round it out by just
exactly what type of saving and investments we are talking about?
D)r. TuiE. I would suggest virtually all of the standard forms of
saving of the ordinary householder with the possible exception of the
increase of the equity in his residence for which he has fairly substan-
tial favorable tax treatment. It would include investments in common
stocks and government bonds and insurance policies and so forth.

Senator MONDALE. Would you broaden that to give a tax credit for
parents sending their kids on to college ?
Dr. TURE. That proposal has been around for a long time, and I
think it deserves much more thoughtful consideration than it has
generally received. I think it is a very provocative and very useful
kind of proposal.
Mr. CAhI.OON. I think it is inherent in this credit that it would go
to that sort of thing, take a fellow with a savings account in a bank,
if you will. as long as he is increasing the basic amount in that sav-
ings bank, albeit p)uitting money aside for the children for college or
anything else, he would be getting this credit so it certainly would
(enhance tlhe opportunities of the average individual, if you will, to
plit away money for school.
Dr. TrRE. We ought to go a step beyond that in that investment in
edule'ation is treated in a very perverse way under the existing tax law
and it is difficult for me to understand what the principle underlying
that treatment is. That is a very valuable investment. It is becoming
an increasingly costly kind of investment. There is no deduction al-
lowed for the investment, the saving that has to go into it at the
time the investment is made and the individual in whom the invest-

,ient has been made gets no offset against his taxable income when he
starts reaping the returns on it. It is one of the cases in which the
bias a-ainst saving and investment is most flagrant, presiiiablly to
serve some objective or social policy purposes that I do not under-tand
at all. I do indeed agree with you, sominethiiing very seriously ought
to be down about this.
Senator MOXDALE. Thank you very much.
Our next witness is Mr. Arnold Cantor, assistant director of re-
search, AFL-CIO, and we will have a panel which also includes
United Auto Workers represented by Howard Young, special con-
Ifltant to President Woodcock; and the Council on National Priori-
ties and Resources, represented by Joan Bannon, assistant director
and by Carl Bade, secretary, United Church Board for Homeland

Senator Mondale. If it is all right, let's begin in the order that
you were called with Mr. Cantor first.
Mr. CAXTOR. Thank you, Senator.

I am Arnold Cantor, assistant director, Department of Research.
AFL-CIO. I am accompanied on my far right by Ray Dennison of
the legislative department of the AFL-CIO.
It is a pleasure to have this opportunity to present the AFL-CIO's
views on the tax policy questions involved in the development of the
congre.-sional budget for the fiscal year beginning October 1, 1976.

We feel that this task force can make a substantial contribution
to both the budgetmaking process and the need for tax justice by fo-
cusing attention on the importance of tax reform and its many goals:
-A means to raise Federal revenue;
-A means to promote fairness;
-A means to strengthen the Federal Government's ability to pro-
vide essential public facilities and services; and
-A means to make tax policy a more effective tool for resolving
the Nation's economic problems.
The huge demands placed on the tax structure as a re'.ilt of the
economic crisis which began in 1973 provide a current illustration of
the needs. The emergency tax cut enacted in March 1975 was a major

factor in cushioning the economic downside and enabling the economy
to sun-vie the near disaster of last winter. Yet, at the -aie time, if the
loopholes of special privilege to wealthy individuals and corporations
were not so wide and fewer dollars escaped tax structure, more money
would have been available to bolster consumer purchasing power and
fund the programs necessalrv to create jobs, protect the jobless-, and
help State and local governments provide es-ential facilities and
This task force has before it the administration's list of "tax ex-
penditure" which details billions upon billions of dollars that the
Treasury does not collect because of special exclusions, exemptions,
preferential rates and the like.
This list includes many items which we view as appropriate to a tax
structure that is to reflect ability to pay and help forward economic
and social goals. This list also includes many-but not all-of the most
glaring loopholes in the tax code. The administration's list does not,
for example, consider as a "tax expenditure" the estimated $7 billion
in annual revenue lost through the exclusion from income taxation
of capital gains transferred at death. Nor does it include the two pro-
visions-deferral and the foreign tax credit-which subsidize the
overseas activities of U.S. multinational corporations at the expense
of American jobs and technological progress and cost some $8 billion
in lost revenue.
Nevertheless the tax expenditure list does provide a vivid and
provocative added division to the significance of the tax structure
and the vast potential that exists for change and improvement.

We would like to submit for the record a copy of the policy state-
ment on tax justice adopted by the AFI-CIO Executive Council at its
February 1976 meeting. That statement spells out the major proposals
which could raise as much as $20 billion in Federal revenue. Although
we recognize that the Budget Committee does not have the responsi-
bility to develop a specific program of tax justice or recommend
specific tax reform legislation, we feel that our proposals can provide
guidance to the committee in its efforts to target major areas of
In view of this body's specific task of focusing on tax policy in
terms of the congressional budget for the forthcoming fiscal year, we
urge concentration on major areas and provisions hlich are costly
in terms of dollars lost and at the same time, through their elimina-
tion, could strengthen thle economy and help put an end to the
In that light, we would like to call attention to the tax subsidies
for the overseas operations of U.S.-based multinational corporations.
The AFL-CIO believes Congress should place top priority on elimi-
nating these preferences which have eroded the tax structure, de-
stroyed American jobs, and spurred the outflow of U.S. capital. tech-
nology, and knowhow.

Specifically, we call for:
1. An end to the foreign tax credit provision which allows U.S.
corporations to credit foreign income taxes on a dollar-for-dollar basis
against their U.S. tax liability. In our view, taxes paid by U.S. corpo-
rations to foreign governments should be treated as costs of doing
business just like the taxes U.S. corporations pay to State and local
2. An end to the deferral privilege which allows multinational cor-
porations to defer U.S. income tax payments on the earnings of their
foreign subsidiaries until such profits are brought home-which may
be never.
3. Elimination of the Domestic International Sales Corporation-
DISC-which allows corporations to spinoff into export subsidiaries
in order to defer, perhaps indefinitely, 50 percent of the taxes on ex-
port profits.
These three tax subsidies cost the United States more than $9 bil-
lion in annual revenue.

In addition, we also recommend that the Budget Committee con-
sider the Tax Reform Act-H.R. 10612-passed by the House in De-
cemnber. The modest reforms contained in that bill would raise about
$1.5 billion in revenue in the fiscal year beginning October 1, 1976. By
merely strengthening some of the provisions such as those applying to
tax shelters, and the minimum tax and completely eliminating the
Domestic International Sales Corporation-DISC-gimmick the
revenue raised by the House-passed bill could be tripled.

The above proposals are, we believe, modest in terms of revenue to
be gained. There are other proposals in the AFL-CIO's tax justice
program, which would raise many billions of dollars more in revenues.
For example:
-Elimination of the across-the-board depreciation speedup. This
loophole will cost the Treasury and the American taxpayer
$1.8 billion in fiscal 1977;
-An end to the capital gains loophole. The preferential half-tax
on unearned income from stocks or other property sold at a
profit and the zero tax when these gains are passed on at
death will cost the Treasury $8 billion to $10 billion in fiscal
1977; and
-Overhauling Federal estate and gift taxes. An effective and
equitable estate and gift tax structure could generate several
billion in additional annual revenue.
Finally, we call upon the Budget Committee to recognize that its
major task is to prepare a congressional budget that can help put
America back to work as quickly as possible. We, therefore, urge that
this task force state clearly that its revenue-raising recommendations
for fiscal year 1977 are offered as a means to help finance essential job-
and income-generating Federal programs.


[The statement by the AFL-CIO Executive Council on tax justice

Dt-spite years of rhetoric, camp;pign pronmi-es and some small improvements
recently adopted by Conigress, the federal tax structure continues to lie riddled
with injustices.
Recent government reports have lresented some dramatic illusl rations:
-In 1973, according to the Initernil Revenue Service, 22 individuals report-
ing incimnies of $500,000 and over paid no federal income taxps whatso-
ever->-even of these super wealthy Americans reported that their in-
come in 1973 \va.s over $1 million.
-Eight large corporations with profits totaling .'44 million paid no income
taxes in 1974, according to a congressional study. The effective average
corporate tax rate for 142 of the nation's largest companies was only
22.6 percent-less than half the statutory 48 percent rate.
-U.S. Treo;isury data shows that U.S.-b:(sed multinational corporations
earned $53.6 billion abroad in 1974 and paid U.S. corporate taxes of $1.7
billion-an effective tax rate of only 3.2 percent.
As a result of these and other injustices, working families pay much more than
their fair share of the tax load.
In 1969, a small step was taken toward eliminating and curbing some of the
major tax loopholes, despite the Nixon Administration's attempts at sabotage.
But by 1971 those small steps were completely reversed under the Nixon Ad-
ministration tax giveaways to business.
Early last year, as part of the emergency tax cut to stimulate the economy,
some additional small steps toward tax justice were taken. The oil depletion
allowance was sublstantially eliminated and limitations were put on some of the
loopholes available to U.S.-based multinational corporations.
The emergency tax cut and its extension to mid-1976 prevented a further down-
ward spiraling of the economy and made a modest contribution to tax justice.
In light of continued high unemployment and the need for consumer purclhasilng
power, the tax cut cannot be allowed to lapse in June.
The A.uiiiji-h ition has now proposed an array of new tax giveaways de-
signed to b1,enefit corporations, bank and wealthy individuals. The Administration
forecasts a huge 32 percent increase in corporate profits for 1977 and admits
its tax giveaways would save corporations $12.2 billion in taxes in 1977 alone.
In the 1960s, corporations paid about one-third of the nation's income taxes.
In recent years, the corporate share has slipped to about 25 percent. By 19S1
the Adminin,4tration wants the corporate share of the nation's income tax l1,ad to
be cut to less than 20 percent.
Obviously, that would mean the workers' share of the tax burden would in-
crea-.e even nmore.
The President's propc-sa.l of a so-c.illed $2R billion income tax cut, linked to an
oequl1 slash in the budget, is pure politics. There would not be a $28 billion tax
cut, in fict, and it is an excuse to dismantle vitally needed social programs.
We call upon the Congress to reject the President's political gimmick.
We urge the Congress to extend the present payroll tax withholding rates now
scheduled to expire.
Ameri-ca's workers and the American economy cannot tolerate an increase in
taxes this summer.
Further, the AFL-CIO urges rejection of across-the-board "tax incentives"
for busine.- investmnient-including further depreciation speed-ups, permanent
investment credits, dividend write-offs, proposals to widen even further the
capital gains loophole and additional gimmicks for the wealthy.
The Administration's scare talk of impending shortg.-os of capital for all
priv.ite business investment is unfoundled. There may be some special and unique
problems that will require specific tax incentives for a particular industry. In
those clearly documented c.-,e, where the need has been amply proven, the AFL-
CIO has already demonstrated its williuniess to support nmeaisures tailor-mnde to
meet the problem.


We will continue to oppose across-the-board tax gimmicks which would shift
more of the tax burden to the backs of average Americans.
As the Congress reviews its work on tax justice, we further urge:
(1) Top priority to eliminating tax subsidies for the overseas operations of
U.S.-based multinational corporations. These preferences have eroded the tax
structure, destroyed American jobs, .-purred the outflow of U.S. capital, tech-
nology, and know-how. Specifically, we call for:
-An end to the foreign tax credit provision. The present practice of allow-
ing dollar-for-dollar credits against a multinational company's U.S. in-
come tax liability must be ended.
-An end to the deferral privilege which allows multinational corporations
to defer U.S. income tax payments on the earnings of their foreign sub-
sidiaries until such profits are brought home-which may be never.
-Elimination of the Domestic International Sales Corporation (DISC)
which allows corporations to spin off into export subsidiaries in order
to defer, perhaps indefinitely, 50 percent of the taxes on export profit-:.
Ending these foreign tax subsidiaries would raise some $9 billion in annual
(2) Elimination of the across-the-board depreciation speed-up enacted in 1971.
This loophole currently costs the Treasury and the American taxpayer over $1.5
billion annually. The $8 billion-a-year investment credit, enacted as a one-shot
stimulus for a sagging economy, should be ended as soon as the economy returns
to high levels of production and employ ment.
(3) An end to the capital gains loophole. The preferential half-tax on un-
earned income from stocks or other property sold at a profit and the zero tax
when these gains are passed on at death costs the Treasury $8-10 billion in an-
nual revenue.
(4) An end to the tax exemption for interest income from state and local
bonds. Such income should be taxed in full, with the federal government provid-
ing an interest subsidy to assure that fiscal powers of the state and local govern-
ments are not hampered. Such a measure would broaden the market for munici-
pal bonds, help financially pressed state and local governmneenIts as well as end a
loophole which benefits only banks and the very wealthy.
(5) Limitation of the corporate surtax exeinption to small corporations. Under
current law, the first $50,000 of a corporation's taxable income is taxed at less
than one-half the 48 percent corporate rate. Such an exemption is justifiable only
if restricted to small corporations. It should be denied to wealthy corporations.
(6) End tax shelters, such as mineral exploration and oil drilling ventures,
real estate, hobby farms and the like, which benefit only the wealthy. Revenue
losses from these schemes total over $1 billion annually.
(7) Strengthening the provision requiring a minimum tax payment from the
wealthy who would otherwise pay little or no tax.
(8) Overhauling federal estate and gift taxes. Present law provides loopholes
to minimize or postpone tax payments for generations, through devices such as
family foundations and generation-skipping trusts. An effective and equitable
estate and gift tax structure could generate about $3 billion in additional annual
Senator MONDALE. Our next witness is Howard Young.


Mr. YOUNG. Yes, sir. I appreciate, this opportunity to testify on
certain tax aspects of the budget. The chairman's letter describing
today's hearing stated that it was to focus on issues other than the
personal tax cut-which, under the Revenue Adiustment Act of 1975,
is due to expire as of June 30, 1976. Thus, I will concentrate on the
question of additional revenue which should be generated through
tax reform.


The UVAW's primary goal with respect to that question is achieving
inream.ed equity in the tax system. Under pivrwt tax law, lower and
middle income people bear a taxload which is disproportionate to their
ability to pay. Although the Federal tax sy.:temi looks pro.Cressive on
paper. the myriad of loopholes available to special groups and special
intercts make a mockery of that apparent progre-sivity. Furthermore,
the structure of State and local taxes usually aggravates the inequities.
The share of taxes paid by corporations has been Ateadilv reduced due
to erosion of the tax base by subsidies and incentives. That approach
is all the more obje-tionable when it is recognized that ad(iiiiiitering
such subsidies and incentives through the tax system is usually ;i, in-
effective-or at least inefficient-way of achieving their intended
purposes; the investment tax credit is an outstanding examiiple of that,
it simply doe,.s not stimulate sufficient additional investment to justify
its continuation.
It is mv undei'tanding that the Budget Committee's function is not
to deal with the specific changes that ought to be made in the tax code,
but rather to concentrate on the budgetary effects of those changes.
XNevertheles. we urge the committee to endorse the concept that needed
revenues be raised through tax reform, as such action is overdue.
Expiration, on June 30, of the current temporary tax provisions pro-
vides the need for the third major tax action by this Congre--. When
the Tax Reduction Act of 1975 was under consideration early last year,
the UAW agreed with many others that the situation was sufficiently
urgent as to justify postpoining action on tax reform in order to effect
a speedy tax cut. Once that was done, we pointed out-for example, in
Leonard NVoodcock's testimony before the I110ose Ways and Means
Committee last July-that action on tax reform was due; unfortu-
nately, the Revenue Adjustment Act of 1975 did not achieve that; even
H.R. 10612 which passed the House but then was sidetracked, did not
include sufficient reforms. The Congress should not pass up another
opportunity to act on tax reform; the American people deserve a more
equitable tax system.

In his testimony last July, Leonard Woodcock proposed specific
reforms which would have produced about $10 billion additional reve-
nue in 1976. Whiile we have not updated our estimates, it is certain
that those same reforms would yield a higher amount in 1977. Further-
more, our estimates last July did not include the effect of the 10-percent
investment tax credit-as compared with the prior 7-percent level-
since we were doing 1976 figures, and that higher tax credit level ap-
plies through this year. Thus, in considering the effect on 1977 revenue,
allowance should be made at least for reversion of the investment tax
credit to the 7-percent level, thus increasing 1977 revenues by about
3.3 billion over 1976 revenues; in fact, we would favor complete aboli-
tion of that credit. Similarly, those estimates did not anticipate con-
tinuation into 1976 of the 50,.000 surtax exemption and the 20-percent

tax rate on the initial $25,000 of taxable income. Those provisions are
estimated to reduce revenues by $1.9 billion, if in effect for all of 1976.

Therefore, we urge the Budget Committee to recommend that tax
reforms be adopted which will increase calendar year 1977 revenue by
approximately $16 billion, as compared with calendar year 1976 reve-
nue which would result from a continuation of the provisions currently
in effect.
There are a number of tax expenditures which could be modified in
order to produce that additional revenue; in fact, we estimate that
comprehensive tax reform would produce over $25 billion. We will
provide the tax-writing committees with more detailed proposals, but
it may be helpful to list for your committee some such possibilities in
addition to the investment tax credit and corporate profits provisions
already mentioned:
-Closing the capital gains loophole, thus treating earnings from
capital the same earnings from labor for purposes of
-Dismantling of tax shelters such as farming operations, real
estate, natural resources, et cetera, which allow the rich to
shield and wash out otherwise taxable income. Until these
tax shelters are eliminated, the "minimum tax" provisions
should be strengthened.
-Eliminating the tax exemption for interest income from State
and local bonds, which benefits the banks and the very
wealthy. The Federal Government should provide interest
subsides so that State and local governments will not face
higher costs when they borrow from the public.
-Revising Federal estate and gift taxes. In 1972, there were 93
gross estates of $1 million or more on which no Federal in-
heritance tax was paid.
-Eliminating the vast net of tax preferences for foreign-earned
income which in many cases make corporate investment
abroad preferable to investment at home.
-Repeal of the Domestic International Sales Corporation
(DISC) gimmick which allows the deferral of taxes on part
of the profit of export subsidiaries spun off by U.S.
-Repeal of the accelerated depreciation provisions which, since
1971, have permitted corporations to defer their taxes by
charging depreciation at higher rates than was previously al-
As indicated at the outset, this statement has dealt with only limited
tax issues. The UAW will provide the Budget Committee with its views
on the more comprehensive revenue and expenditure matters. However,
it is important to make clear that we do not advocate raising additional
revenue in order to decrease the projected budget deficit. Rather, we


intend that such funds be used to provide additional tax relief to those
with less than $20,000 annual income, and to finance needed Govern-
mnent expenditures beyond those recommended by the President.
We believe that reducing taix expenditures will move us toward
the twin goals of a more equitable tax system, and more adequate social
Senator MOXDALE. Thank you very much.
Miss Bannon.


Miss BAXXOXN. I am Joan Bannon, appearing today on behalf of the
Council on National Priorities and Resources.
The Council on National Priorities and Resources is a nonprofit as-
sociation of organizations representing local governments, business.
and labor, educators and farmers. religious organizations., and minority
groups. The member organizations include the Amal gamated Clot 1i ng
Workers of America. AFL-CIO; American Federation of State.
County and Municipal Employees, AFL-CIO: Americans for Demo-
cratic Action: National Education Association: National Farmers
Union: Oil, Chemical and Atomic Workers, International Union.
AFL-CIO; International Union, UTnited Auto Workers; United
Church Board for Homeland Ministries: United Mine Workers of
America: United Presbyterian Church, U.S.A.; and the U.S. Confer-
ence of Mayors.
The Council on National Priorities and Resources is committed to
promoting the use of national retourees to meet human needs. We be-
lieve that tax expenditures are frequently as important as direct pro-
gram expenditures in the Federal budget and must be taken into ac-
count in discussing national priorities. Although the organizations
comprising the council have, in the past, given their primary attention
to spending programs, their concern with overall priorities is inevitably
Icading them into involvement with the modification of tax laws.

FIundamental reform of our system of taxation is long overdue.
Never before has the loophole-ridden tax systemm s-eemed so unjust.
Massive tax avoidance by wealthy individuals and corporation is
quickly eroding not only tlihe tax base but the confidence of taxpaying
citizens in the fairness and integrity of their Government. According
to a study by the Treasury Department, nearly one-fourth of all tax
subsidies in fiscal year 1974 went to the wealthiest 1.2 percent of tax-
payers. The 160.000 richest taxpayers in this country (0.2% of all
taxpayers) saved a total of $7.3 billion in taxes in fiscal year 197-4.
due simply to tax loophools and subsidies. And 14.6 percent of all tax-
payers-those with incomes over $20,000-received 53 percent of the
benefits from tax breaks.
According to the most recent figures available, in 1973, more than
.0() individuals with incomes over $100,000 paid no Federal income
taxes whatever.


The reason for the inequity becomes obvious as soon as one looks
at the list of tax credits, deferrals, exemptions, and deductions avail-
able to the American taxpayer when filling out his tax form. Although
available in theory to everyone, in practice only a small number of
tax breaks are truly available to those earning moderate incomes of
$15,000 or less. Favorable treatment of capital gains, the exemption
of income from tax exempt bonds, excess depreciation deductions, and
many other tax benefits provide preponderant benefits to the top
1 or 2 percent of the income scale.
Corporation benefit from even more tax breaks and giveaways than
wealthy individuals, and as a result, corporations are paying a shrink-
ing share of the total burden of taxes. According to a study by
Otto Eckstein. "Profits and Profit Taxes Revised, 1974", the average
effective Federal tax rate on corporate profits dropped from 43.3 per-
cent in 1971 to 34.0 percent in the first quarter of 1974-a rate which
probably dropped still further in 1975, due to the increase in the
investment tax credit and in the corporate surtax exemption.
Give the dramatic and well-known inequities of the tax struc-
ture. it is no wonder the American people are beginning to lose faith
and confidence in the American political system.
It hlias been 7 years, since enactment of the Tax Reform Act of 1969,
that many major change has been made in the tax structure. Yet, in
the economic crisis gripping this country during the last 2 years.
unique and critical demands have begun to make themselves felt on
the Nation's budget. For revenues to meet these increased demands,
they must continue to grow, but this necessary growth will be severely
curtailed unless and until gross tax injustices are eliminated and the
wealthy are required to pay their fair share of taxes.

Tax deductions and other tax subsidies are often called tax expendi-
tures. Money lost to the Treasury through various subil)idies and loop-
holes is really no different from money collected through the tax code
and then spent through the budget. In each case the money represents
a kind of transfer between the Government and certain beneficiaries.
It is noteworthy that since 1968. the tax expenditure budget has
been growing just a9 fast or faster than the national debt, GNP,
budget outlays.-, or total revenues. In 1968. tax expenditures resulted in
a revenue loss of $44.14 billion: in 1977 the value of tax expenditures
will have risen by an astronomical rate of 97 percent to 6.9 billion.
Moreover, the Congressional Budget Office in its 5-year projections
predicts the tax expenditure budget will rise to approximately
$150 billion by 1981.
Obviously, tax expenditures have become an increasingly important
part of the Federal budget. Yet, pointing to the way in which tax
expenditures have grown, the inequities they produce, and the manner
in which they have quietly eroded the tax base, is not to say that all
tax expenditures are inherently bad. There are many tax provisions


designed to help taxpayers meet certain basic needs, such as emergency
medical care and housing, or to induce economic activity considered
by everyone to be vital to the Nation.

It is those, subsidies that serve no public purpose at all which
should be eliminated. What our decisionmakers need are reasonable
criteria against which expenditures may be ranked and judged. We
must look at etch subsidy in terms of the legitimacy of its goals, and
whether it is meeting those goals, in terms of whom it benefits and
to what extent, and who would be hurt by the subsidy's elimination.
And of course, with those subsidies that benefit wealthy individuals
and corporations almost exclusively, we must ask the difficult ques-
tions of whether any national goal at all is served by continuing the
subsidy, whether windfall profits are being earned at the Govern-
minent's expense (thus ultimately at taxpayers' expense), and to what
extent the equity and progressivity of the whole tax system is under-
mined by continuing the subsidy.
Certainly, at a minimum, those subsidies that concentrate benefits
in the higher-income brackets must be examined with great care: they
are, by their very nature, suspect. If the Federal Government is going
to spend money to support or reward certain activities, it does not
make sense to do so under a system which provides the highest benefits
to those with the highest incomes.

It is ironic that at the same time the President proposes to cut
Federal spending, he does not propose a reduction in, much less the
elimination of, a single tax expenditure.
Senator MONDALE. He does. He proposes the elimination of the low-
income-worker's tax bonus. That is the one he cuts out.
Miss BANNON. Moreover, the tax proposals of the President would
disproportionately rewa;rd high-income corporations and individuals;
the earned income credit would be discontinued, payroll taxes would
rise significantly and additional stock ownership, estate tax and accel-
erated depreciation incentives would be instituted. The Council on
National Priorities and Resources believes that the President's tax
proposals are without merit, and would be positively harmful to poor
and middle-income workers.

A general principle in reforming the tax code should be to eliminate
those deductions, credits, and deferrals that are available only to the
wealthy and hence distort the progressivity of the tax structure, and
those that do not serve any legitimate Government objective. By re-
pealing those loopholes, tax rates on all citizens could be dramatically
reduced, and important Government services could be more adequately
Perhaps most important is to evaluate tax expenditures against
their possible alternatives-specifically as opposed to direct Govern-


meant expenditure programs. There are a variety of ways to provide
Government financial assistance-direct grants, loans, interest sub-
sidies, guarantees of loan repayment or interest payments, insurance
on investments, and tax incentives. Given a congressional decision
to provide assistance to a particular group, Congress should decide
how to furnish such assistance with more careful consideration than
it has in the past, and not automatically enact a new tax expenditure.
Tax incentives should be enacted only when they can be demonstrated
to be the best and most efficient way of meeting a goal.
The Budget Committees have a unique opportunity to analyze tax
expenditures in just such a fashion. It is fortunate that the Budget
Reform Act realized the importance of overseeing and controlling the
tax expenditure budget, giving the Budget Committees significant
responsibility and authority for recommending changes. In line with
this important mandate, the Budget Committee, and the task forces
on tax expenditures in particular, should look closely at the benefits
and impact of tax expenditures. Moreover, to perform the oversight
junction effectively, the Budget Committees should consider tax ex-
penditures in each functional area right along with direct spending
programs in their deliberations and markup sessions.

There are four major principles or criteria by which we believe
every tax expenditure should be evaluated-both by the Budget Com-
mittees and by the tax committees:
(1) A tax expenditure must, at least minimally, achieve an objec-
tive that is considered nationally desirable, whether stimulating the
economy or encouraging home ownership or some other purpose.
(2) It must achieve its objective efficiently; that is. it must result
in a greater dollar value to the individuals, corporations, or activities
involved than is lost to the Treasury through the tax expenditure,
and it must be administratively simple to implement and enforce.
(DISC is an example of a tax expenditure that fails to fulfill both
of these "efficiency" criteria.)
(3) Its benefits must be distributed in an equitable and fair man-
ner. Thus, tax expenditures must not benefit only the wealthy, nor
Ile-ult in windfall profits, nor needlessly benefit those who would carry
on the subsidized activity without any tax incentive.
(4) The tax expenditure must not unduly complicate the tax code.
The tax system is complex enough as it is, and to have a large number
of tax incentives side by side with provisions making up the structure
of the tax itself can only cause confusion. A tax system whose in-
numerable and often needless complexities require the interpretative
abilities of thousands of accountants, lawyers, economists, and long
hours of work by ordinary citizens is in dire need of simplification,
so that it can be quickly understood by everyone.

Most Americans agree with the principle that a tax system should
be equitable and should tax income and wealth in a progressive fash-


ion, thereby serving to redistribute resources in our society. Stated
simply, these notions require that persons in similar circumstances
with similar incomes and assets should be taxed alike, and those who
have more should pay more than those who have less. In addition, the
tax system must implement a sound fiscal policy, since it is by means
of altering revenue and expenditure levels (or by adjusting the mone-
tary system) that the Government can influence the Nation's econ-
omy. Perhaps most importantly, the tax system must raise revenues
adequate to meet the Government's expenditure needs.
Today it is primarily the equity and progressivitv of the system
that are in question. It is the second feature which insures an impor-
tant and dynamic redistribution of wealth and resources in the
society. Yet, the present tax system, rather than redistributing in-
come to the majority of people at the lower end of the economic
ladder, has become a contribution through its many loopholes, to
the maldistribution of wealth.

However, with respect to fiscal policy, too, there are problems
caused by tax loopholes. The myriad of tax incentives and prefer-
ences in the system today greatly decrease the ability of the Govern-
ment to maintain control over the management of its priorities-
control both over the types of programs it wishes to implement and
over the amounts it wishes to spend. The careless enactment and
continuation of tax expenditures runs counter to the whole thrust of
recent concerns over the ordering of national priorities, and the wise
allocation of our resources-resources which we have come to view
as limited, and in need of careful management. Tax expenditures are
typically outside of expenditure limits placed on the budget by Con-
gress or the President. Almost without exception, tax "clothing" has
sheltered all tax expenditures from public review and from potential
change or repeal.
The Council on National Priorities and Resources believes that
Congress should regularly review and reenact tax expenditures in
the same way as direct expenditures-so that each tax expenditure is
up for renewal every year. Adopting an annual "review and renew"
procedure would, at the very least, insure that tax expenditures re-
ceive the attention they warrant.
The Budget Committees provide a critically important forum for
this annual review. In fact, given the time devoted to the evaluation
of spending programs by this committee, it is absolutely essential to
upgrade and underlie the importance of tax expenditures by giving-
them proportionate consideration.

In view of the many problems with our tax code caused by the huge
number of tax incentives, we set forth below some of the most flagrant
loopholes and abuses of our present tax laws which should be quickly
eliminated. Our list is by no means a comprehensive or exhaustive
program for reform. Other tax expenditures not covered here also
deserve review. But with the program we recommend, the Nation


would begin to take bold strides in the direction of true equity and
progressivity. Notably, the tax package we propose would give sub-
stantial tax relief to low- and moderate-income taxpayers by insuring
that others pay their fair share and by refunding money through a
tax credit mechanism.
Our proposals for tax justice and a more understandable tax code
(1) Repeal of tax expenditures providing excessive profits to cor-
porations and serving no national purpose, including the accelerated
depreciation allowance, the investment tax credit, and percentage de-
pletion for independent oil and gas companies and hard mineral
(2) Repeal of tax incentives that favor foreign over domestic
investment, including deferral of income from foreign subsidiaries,
domestic international sales corporations (DISC), and Western
Hemisphere and less developed country corporations, as well as
changeover from the foreign tax credit to a deduction;
(3) Strengthening the minimum tax concept, elimination of the
maximum tax and the $100 dividend exclusion and full taxation of
capital gains;
(4) Reform of the individual income tax to replace present deduc-
tions and exemptions with tax credits, including a refundable credit;
(5) Integration of the estate and gift taxes as well as the elimina-
tion of the generation-skipping trust and the 100 percent estate
charitable deduction;
(6) Analysis of the social security payroll tax to determine how
the burden of the tax in low-income groups could best be alleviated;
(7) Extension of the tax cut, unemployment compensation, social
security and child care provisions of the Tax Reduction Act of 1975.
The tax reforms suggested here illustrate the individual concerns of
many of the constituent organizations participating in the Council
on National Priorities and Resources. However, while the organiza-
tions share a basic concern that the Nation's tax laws must be con-
sistent with the objective of meeting human needs and support the
thrust of the proposals presented here, they are not necessarily in a
position to endorse or to be knowledgeable about all of the specific
reforms presented.
The investment tax credit was first created as a general stimulative
tool in 1962 to spur the economy during times of recession. The credit
reduces taxes by a percentage of the taxpayer's investment in machin-
ery and equipment---currently, a 10-percent credit is allowed. Thus, if
a business spends $10,000 on new equipment, it may deduct $1,000
from its tax bill. The tax incentive is meant to encourage plant
modernization and expansion, in order to increase productivity and
There is little question that the investment tax credit has been an
aid in stimulating investment. The question, rather, is whether it has
been directed at those areas of the economy and at those industries in
greatest need. Many factors indicate that it has not been. Investment
in machinery and equipment is not necessarily a top priority need
during depressed economic periods. Efforts should be directed toward


ci:iating anId stimulating employment and toward labor intensive
industries: heavy investors in machinery are not necessarily large
employers. In fact, plant expaition during high uneiiiployment is
often useless because businesses are already operating at less than full
catpacity and cannot hire enough workers to even utilize existing
machinery. Increase investments in such a situation may help alleviate
future bottlenecks, but little is achieved in immediate relief to the
unemployed. The employment agrument is further weakened by the
fact that increased productivity through modernized equipment is
more likely to result in fewer workers emIployed than before.
There are naturally indusrties which can benefit from additional
and modernized equipment and increase their employment level, but
the investment credit is not limited to such areas. Direct subsidies to
needy industries and geographical areas are a much more efficient and
economical way of achieving the credit's purpose. Direct and selective
assistance insures that the right businesses are being helped without
a taix giveaway to undeserving industries.
The investment tax credit is a waste of taxpayers' money anytime
thle credit is used for normal replacement of machinery. Even plant
expansion is generally a response to increased levels of demand, so
that often the credit is simply a bonus to businesses who would be
making the same investments without the credit.
The use of the investment tax credit as a countercyclical tool to spur
investment has been seriously questioned by many economists. The
little data that exists indicates that the primary effect of the invest-
ment tax credit comes after a recession-in fact. in the middle of the
recovery. By adding to the crest of economic expansion, the credit may
actually be harmful.
The investment tax credit is also inequitable because of the types of
businesses it excludes. It does not cover construction, which in many
industries is an important part of expansion and modernization.
Likewise. it does not help the depre-sed housing industry. But more
ii!mportantvly, the tax credit excludes many businesses simply because it
is a stimulus conducted throuo'h thle tax system. Many taxpayers can-
not take advantage of the credit because they do not pay taxes: with-
out a tax bill, one cannot receive a tax credit. This includes businesses
whieh are just beginning or ones that are failing, who are not making
enough money to incur a tax liability. These are the businesses which
are most in need of aid. yet the credit bypas-ses them. Tax-exempt
businesses and nonprofit organizations, such as hospitals and Govern-
ment organizations do not receive any benefits from the investment tax
credit either.
TIe investment tax cre(lit will constitute a loss to the Treasury of
l.> billion in 19T7. Considering the many problems with the credit,
this is an imtiense and unjustified waste of the American taxpayers'
money and it is the taxpayer who eventually pays for others' tax
breaks. Congress should move to repeal this unfair tax expenditure
aInd consider alternative ways of stimulating those portions of the
economy most in need of assistance.

Tlhe asset depreciation range tax allowance was originally designed
as a companion tax expenditure to the inve-tfient tax credit. Directed


exclusively at relieving taxes on business investments, it has even less
merit than the investment credit. ADR sets useful lives for business
assets as a guide for computing depreciation deductions. The guide-
lines originally established in 1962 were deliberately shorter than the
actually lives of assets, as an investment incentive and to give busi-
nesses the benefit of the doubt in estimated lives. A ratio reserve test
was set up to allow for shorter or longer lives for business whose
asset retirement practices differed significantly from the guidelines.

In 1971 the ADR system underwent changes in which completely
removed its justification as an accounting device and made it simply a
tax giveway. Asset lives were reduced 20 percent, which leaves no cor-
relation between the actual life of an asset and the life used in allow-
ing depreciation deductions. The reserve ratio test was abolished, so
that there is no allowance for individual business variations. The re-
sult is that companies spread deductions over a short period, which
gives very substantial tax benefits during the depreciation range pe-
riod. The defenders of ADR contend that it is merely a tax deferral-
large deductions taken immediately mean no deductions in later years.
But a tax deferral is not a mere technicality-it represents an interest-
free loan to the taxpayer. The money saved is available for increased
investment and profit. Furthermore, as businesses continue to acquire
assets, the free loan is continually renewed. As Harvard tax expert
Stanley Surrey explains it.
In a stable business, as each assets is rephiced, the deferral of tax on that
asset offsets increased taxes on other assets as their deferral is ended, so that
the original deferral in effect is never made up. In a growing business, the addi-
tional assets contribute still more deferral. (Surrey, "Pathways to Tax Reform,"
Proponents or ADR who admit to the benefits of the deferral resort
to other arguments in support of the tax break. One claim is that
assets cost more to replace because of inflation, so businesses need a
compensatory tax bonus. One wonders if these supporters are aware
that everyone is affected by inflation, but not everyone receives a tax
break to make up for it. Another argument brings up the double tax-
ation issue-the fact that corporate income is taxed first to the com-
pany and again to the shareholders when it is given out in dividends.
This supposedly justifies an unrelated tax break. Defenders also claim
that other countries have liberal tax laws for business investment so
American companies deserve the same advantages. Of course, other
countries also have much more progressive and equitable taxes on in-
dividuals-yet we have not changed our laws to conform to theirs. Not
only do none of these defenses have much logical support, ADR should
not be used as a solution to these problems. If a problem indeed exists,
it should be handled directly rather than giving indiscriminate tax
relief through ADR.

The other defense of ADR is the same as for the investment tax
credit-it is needed as an incentive for modernization and expansion.
This argument is subject to the same weaknesses described in connec-

72-251 0-76--3


tion with the credit, and certainly two methods shouldn't be used to
achieve the same goal. Again, if industries are indeed in trouble, the
most sensible solution is to utilize direct subsidies. Thus, the asset
depreciation range should be returned to its function as a realistic
measure of asset, lives. It is time to put a stop to such exorbitant reve-
nue waste.
Unfortunately, the administration has decided not to include ADR
in its list of tax expenditures, stating that it is a "reasonable" depre-
ciation allowance and thus not a subsidy. We believe such a large tax
break-which allows "asset lives" much shorter than industry aver-
ages-should be included in the tax expenditure budget. The present
ADR loophole was responsible for a loss to the Treasury of $1.6 billion
in 1973.
Despite the recent changes made in the oil depletion allowance as
part of the Tax Reduction Act of 1975, the depletion allowance re-
mains fully in effect for tens of thousands of oil, gas, and mineral
Percentage depletion allows the producer of oil, gas, and other
minerals to deduct 22 percent of the income derived from production
in computing taxes. Just as unfairly, it allows landowners to deduct
from U.S. taxes the same percentage from royalty income, those pay-
ments made to him by mineral companies in exchange for drilling.
Because the deduction is computed as a fixed percentage of sales, up
to 50 percent of the net income from a property, those mineral pro-
ducers with the greatest profit receive the greatest benefits from the
subsidy; those on the verge of bankruptcy and with low profits-those
most in need of Government assistance-receive little or no benefit
from the allowance.
The percentage depletion loophole is an expensive one, given the
large amounts of money it channels to large oil firms. Percentage de-
pletion deductions against domestic production allow oil companies
to deduct, on the average, approximately 16 times the total dollar cost
of the wells. The revenue loss to the Treasury totals $575 million, even
after the major reduction made by the Tax Reduction Act.
The present system of percentage depletion allowance has two major
effects, according to a 19169 study of the Treasury Department: (1) It
lowers the price of oil and gas, thereby stimulating public demand,
and (2) it provides higher profits and royalties to landowners, foreign
states, and oil companies. Neither of these results would seem to be in
the public interest at a time when we are trying to restrict petroleum
consumption, and when oil company profits are at unprecedented high
levels. Moreover, a major justification of the percentage depletion
allowance-that it provides the large quantities of the capital needed
to discover and produce oil-would seem to be superfluous: Companies
with high profits and the potential of even higher profits already
possess the requisite incentive for production. Domestic oil exploration
and development is at record hiLdghs, due largely to the marketplace in-
centive of increased crude oil prices. Although percentage depletion
was cut from 27.5 percent to 22 percent in 1971, drilling footage in
1974 totaled 158 million feet compared to an annual average of 149
million feet in 1967-69, and overall exploration and development ex-
penditures were at an alltime high.


Moreover, whatever justification there was for the percentage deple-
tion allowance when originally enacted, that justification has been
critically undermined by recent congressional action repealing the
allowance for "large" oil and gas producers while still leaving it intact
for producers earning millions of dollars of profits each year. Inde-
pendent oil producers as defined in the tax cut bill are not small. A
firm that produces 2,000 barrels of oil per day, the cutoff size, will
usually earn about $7.5 million per year, a figure which places the
firm in the top 1 percent of all U.S. firms. Moreover, today the inde-
pendents are getting the highest prices, earning the highest profit
margins, and paying the least taxes of all oil firms. Their typical rate
of return on equity capital is a whopping 25 percent. Because of the
now selective nature of the oil depletion allowance, independent pro-
ducers are not only making high windfall profits but stand to make
still higher profits as large producers raise oil prices to compensate for
the loss of percentage depletion.
There is no rational justification for granting percentage depletion
to independent oil and gas producers (for up to 2,000 barrels per day
of oil or 6 million cubic feet of natural gas). The amount of tax-free
income thus exempted comes to $1,606,000 per year.

The fundamental defects of percentage depletion become clear
again when analyzing the tax loophole it provides to the producers
of hard minerals-coal, metals, et cetera. Originally extended to coal
and other minerals to make them more competitive with oil and gas,
the percentage depletion was later liberalized still further to provide
tax relief to producers of clam and oyster shells, sand and gravel,
stone, et cetera. It is arguable that with oil and gas depletion elimi-
nated, equity considerations demand the same sort of cutbacks in the
allowance for hard minerals. Moreover, as with oil and gas depletion,
the percentage depletion system fails to provide encouragement or
incentives to those producers most in need of help; the system dis-
courages efforts to conserve scarce resources, as well as efforts to re-
cover minerals from the sea or to recycle used materials.

The Domestic Intenational Sales Corporation, commonly known as
DISC, is a device for reducing the income taxes of firms that export
U.S. products. Technically, the DISC program involves the "deferral"
of taxes on one-half of a DISC's export profits-but in practice the
deferral of taxes has amounted to complete forgiveness of tax liability.
Because of the windfall benefits made available to corporations under
this tax subsidy, many large U.S. firms have spun off special export
subsidiaries in order to take advantage of the tax gimmick and sub-
stantially cut their tax bill.
When enacted in 1972, DISC's were intended to encourage the
export of domestic products and, in that way, to remedy our adverse
balance-of-payments problem. Thus, the DISC provision directly
counteracts other tax incentives-for example, the deferral of income


from foreign subsidiaries) with the opposite goal-that of stimulating
foreign investment. The elimination of the one would eliminate the
excuse for the other.

Fortunately, when the DISC mechanism was created, an evaluation
report was required by 1975. Both the Treasury and the Office of
Management and Budget, have concluded that the DISC tax expendi-
ture should be eliminated. The revenue loss resulting from DISC has
gotten totally out of hand. When enacted, the Treasury projected its
cost to be $170 million in 1973; in fact, the cost in that year turned
out to be $770 million. The Treasury Department estimates that DISC
will cost taxpayers as much as $1.4 billion this year and $1.6 billion
inll 1977.
What's worse, these huge amounts of money do not even appear
to be accomplishing any reasonable objective. From March 1972 to
March 1973, the first full year for which data are available, the DISC
program, produced only about $400 million in additional dollars of
foreign exchange-but at a program cost of $650 million. Paying
$650 million to produce and export goods that earn foreign exchange
of only $400 million hardly qualifies DISC as one of our efficiently
run Federal programs. In 1974, 0MB estimates that the United States
paid $2.6 billion to produce $1.6 billion in foreign exchange; yet, there
is no proof that this $1.6 billion would not have been generated any-
way. This contribution of DISC to increased export sales has not ever
been convincingly demonstrated.

Not only the great cost but the inequity of DISC argue for its
discontinuation. In 1972, over 80 percent of the 2,249 DISC's owned
by very large companies earned 22 percent of all DISC profits in that
year. Small business firms received almost no benefits from the DISC
Given recent changes in international economic relations-especially
the adoption of a floating rate monetary system-the original justifi-
cation for DISC has all but disappeared. Our balance of payments
problem, largely the result of our overvalued U.S. dollars in the
1960's, has been alleviated, if not cured by the dollar devaluations of
1971 and 1973 and by the adoption of the floating money standard,
so that we are now able to maintain a balance of payments equilibrium
without artificial subsidies like DISC.
The fact that DISC is seen by some foreign countries as discrimina-
tory and hostile to International Agreements on Tariffs and Trade
(GATT), which outlaw export subsidies, adds further weight to the
case for DISC's elimination. By artificially lowering the attractiveness
of exports to large corporations, DISC has not only hurt the trade
position of foreign countries, but has arguably hurt our domestic econ-
omy as well. DISC was partially responsible for spurring unwanted
international sales of agricultural products in short supply-wheat.
soybean, lumber, fertilizer, and animal feed. Due to high foreign de-
mand, corporations receiving DISC benefits ended up with high


profits and high subsidiaries; consumers simply ended up with high
There is no longer any compelling reason-if there ev%,r was one-
for the United States to continue to subsidize large and wealthy corpo-
rations in a wasteful and economically inefficient fashion. Interna-
tional and economic policy considerations add further arguments
against continuation of DISC. We therefore support the iiiiedliate
termination of this tax expenditure.

Foreign source income of domestic corporations is more likely to
escape taxation due to inequitable tax treatment than nearly any other
kind of income received by U.S. citizens or corporations. It is primar-
ily due to favorable tax treatment of foreign incomes that oil com-
panies in 1974 paid only 12 percent of their multibillion-dollar
incomes on the average in taxes, and most other corporations a per-
centage of income well below 25 percent. Moreover, the greater the
income of a multinational corporation, the more likely it was to benefit
from the foreign subsidies in our tax laws, and the greater a tax break
it received.
One of the major tax loopholes through which multinational corpo-
rations managed to evade paying more than minimal U.S. taxes was
througli operating in the form of foreign subsidiaries. Under U.S.
law, the income of foreign subsidiaries is not taxed until distributed or
repatriated to the U.S. parent corporation as dividends. Thus. if these
earnings are reinvested, or invested in third countries, a corporation
can escape U.S. taxes on the income completely.
Recommendations that this tax expenditure be dropped from our
tax laws have been made for some time. The Treasury advocated out-
right repeal in 1962. It makes sense to eliminate this foreign tax pref-
erence on the grounds that it serves no useful purpose to subsidize
foreign investment over domestic investment while draining the Na-
tion of needed revenues.
By subsidizing the export of technology and productive facilities-
which, in turn, makes necessary the importation of goods produced by
these facilities-the preference nee(llessly exacerbates the Nation's
balance-of-payments deficit. Given the high unemployment rate here
in the United States. it is particularly crucial that we stop encourag-
ing companies to expand overseas rather than at home where jobs
are needed.
We believe that tax equity and basic notions of rationality and effi-
ciency demand that earnings of overseas subsidiaries of domestic cor-
poration should be taxed on a current basis.

Another major tax expenditure benefiting wealthy multinational
corporations at the expense of the taxpaying and working public is the
foreign tax credit. The tax credit, like other subsidies for foreign in-
vestment and income, contributes significantly to making corporate in-
vestment abroad more attractive than investment at home. By allowing
a dollar-for-dollar credit for foreign taxes on a company's U.S. income


tax bill, we do more for a large multinational corporation than we do
for the small businessman in this country. A U.S. business that pays
State and local income taxes, property taxes, real property taxes, sales
taxes, and value-added taxes, is allowed only a deduction for such
taxes. Large multinational firms, on the other hand, are allowed a credit
for foreign income taxes, a subsidy worth roughly twice as much.
The case has been persuasively made that the tax credit serves to ex-
port job opportunities needed domestically and contributes to our
bala nce-of -payments problem. The real issue, though, is whether there
is any important national objective served by forgoing revenue to
foreign governments.
Discrimination in favor of foreign investment cannot be tolerated
at a time when domestic unemployment is so high-and at a time when
some feel the need for domestic capital investment is so great. The
foreign income tax payments of U.S. corporations should be treated
just like the taxes paid on domestic operations-as deductible costs of
doing business.

One method of calculating the foreign tax credit, which adds to its
injustice, is the overall limitation. Under the overall limitation method
(as opposed to the per-country limitation), total earnings and losses
from all foreign countries in which the company operates are aggre-
gated, as are all foreign taxes. By lumping together all income and all
taxes, a corporation can use credits from countries with high tax rates
(such as Sweden or the Arab countries) to offset U.S. taxes due on in-
come from low tax countries (Australia or New Zealand). In effect,
this means that high tax countries, rather than the United States, are
collecting taxes on income earned in low-tax jurisdictions.
Certainly, we do not want companies to be required to pay full taxes
to two or more different countries. Yet, it is senseless to encourage com-
panies to range subsidiaries and branches in such a way as to avoid
all U.S. taxes. There is no national interest that dictates we give mas-
sive tax breaks to corporations simply because of the fortuitous cir-
cumstance that they do business in a certain set of countries. Nor is
there any reason to give high tax countries those taxes we would other-
wise have collected. Thus, at a minimum, if the foreign tax credit is not
eliminated, the overall limitation method of calculating the foreign
credit should be phased out.

Payments made by oil companies to OPEC nations should be classi-
fied as royalties and be treated as deductions on the companies' U.S.
taxes. By claiming such fees as income taxes rather than royalties, mul-
tinational oil companies have been able to credit their U.S. tax bill for
the amount paid, and thereby realize huge profits without having to
pay correspondingly high taxes. In fact, this provision is one of the
main reasons major oil companies with billion dollar incomes paid as
little as 2 or 3 percent of their income in taxes.
Excess tax credits generated from oil production-even after offsets
allowed under the overall limitation for low taxes paid to other coun-

tries-totaled almost $1 billion in 1971 and undoubtedly much more
in the last few years of immense oil industry and oil country profits.
There is no good reason for the United States to continue to subsidize
high profit companies in this manner at such exorbitant and wasteful
cost to taxpayers.

There are two other tax subsidies accorded foreign source income
which ought to be eliminated: (1) The 14 percent reduction in the
U.S. tax rate for Western Hemisphere trade corporations, and (2)
the deduction for foreign income taxes which is allowed less developed
country corporations.
Western Hemisphere trade corporations benefits were originally
instituted in response to the immense tax burden imposed on a few
corporations doing business in Latin America in World War II. The
effect today, however, is to provide unwarranted and unneeded sub-
sidies to U.S. firms exporting products to Latin America and to those
engaged in natural resources activities in Latin America. In fact, of
the $346 million cost of this subsidy in 1972, $196 million or 57 per-
cent went to mineral industries-chiefly to the oil corporations.
Compounding the inherent inequities of the tax expenditure, a
broad IRS interpretation has allowed corporations to obtain the West-
ern Hemisphere benefits even on goods manufactured outside this
hemisphere, simply by manipulating the title of goods sold.
The Western Hemisphere tax gimmick serves mainly to complicate
existing corporate tax law without providing substantial benefits to
the Nation. It is only reasonable and internationally prudent that in-
come from all foreign sources be taxed at the same rate, and that
Latin American countries not be favored over other nations.
Similar reasons exist for repealing less developed country corpora-
tions' (LDCC) deductions. Presently, the earnings of LDCC subsidi-
aries, like those of other subsidiaries, can be deferred indefinitely. In
addition, though, foreign taxes paid on the dividends of subsidiaries,
when transmitted to the parent corporation, receive both a credit and
a deduction on U.S. taxes.
It would seem much wiser to extend U.S. subsidies to those under-
developed and Latin American countries we wish to assist in the form
of direct loans, grants and technical assistance. Not only could such
assistance be better targeted and more closely alined with our inter-
national interests, but it would very likely be more effective in helping
underdeveloped nations achieve well balanced growth.

The Federal tax system is so riddled with tax exclusions, deductions,
deferrals and preferential rates that some taxpayers manage to end
up with little or no taxable income. The wealthy individual, with good
accounting advice, can invest in bonds, business ventures, and in
capital for the sole purpose of sheltering his income from taxation.
Corporations can also take full advantage of tax preferences to the
extent that their final tax bill is negligible. The "minimum tax," en-
acted in 1970, was a token effort by Congress to rectify the situation.


It acknowledges that everyone should pay at least some tax, but the
law is so weak that it is next to ineffectual.
The minimum tax is calculated by adding up certain areas of non-
taxable income: The excluded part of capital gains income, accelerated
depreciation on real estate in excess of straighlt-line depreciation, per-
centage depletion allowance, rapid amortization of certain invest-
ments, and ex<,ess reserves for bad debts. From this total is subtracted
the taxpayers' regular tax plus $34.0,000. A 10-percent tax is imposed
on the remaining amount.
It is obvious why the minimum tax has done little to alleviate tax
injustice. In 1971, after the tax was enacted, there were still nearly
500 individuals with incomes over $100,00() who paid no taxes what-
soever, including several millionaires. The tax preferences covered by
the minimum tax are by no means the only loopholes available; the tax
should be extended to the many other kinds of excluded income in
the tax laws. Moreover, the subtraction of the regular tax paid from
the total of the preference items greatly cripples the tax's impact.
More reasonably, the minimum tax should be a supplemental tax to the
regular tax, since the fact that someone is paying normal taxes should
not shield him from taxation on otherwise excluded income.

The $30,000 floor is unreasonably high, especially when the tax-
p)ayer's regular tax has already been subtracted. It is far too large
an amount of money to escape taxation. The minimum tax is meant to
affect taxpayers who derive a substantial amount of income from tax
preference interests, but a person who has even $10,000 in excluded
income is not exactly a member of the lower income classes. Imposing
the minimum tax on all preference income above $10,000 at most would
be more appropriate.
Another problem with the tax is that it is not progressive-the 10
percent applies whether the taxpayer is earning $30,000 or $300,000
in preference income. It has no relation to normally taxable income-
in fact, because of the sublstraction of the regular tax in computing
the minimum tax, as taxable income rises, the amount of preference
income subject to the minimum tax is decreased. This is completely
contrary to the principle of progressive taxation, particularly when
the normal rate for most of the taxpayers affected by the minimum
tax is as high as 70 percent.
In a truly equitable tax system, there would be no need for a
minimum tax. It is a shameful admission of the fact that our tax code
invites widespread exploitation. Ideally, this should be rectified
through the repeal of the unfair tax expenditures. But until that goal
is reached, the minimum tax should be strengthened by lowering the
floor, enlarprnig the list of preference items, making the tax )ro-
fressive, and making it an addition to the regular tax. Several billion
dollars in revenues would be generated through these changes, com-
pared to the more $335 million raised by the minimum tax in 1970.

In 1969. Congress arrived at an interesting recognition of the
problem of tax preferences. They saw that unearned income was


benefiting from all kinds of tax breaks, so rather than attacking these
tax breaks they decided earned income should have its share of relief
too. The "maximum tax" was established, which places a 50 percent
tax rate ceiling on earned income.
The House Ways and Means Committee explained that the
maximum tax would: "Reduce the incentive for engaging in (tax
avoidance) activities by reducing the high tax rates on earned income."
It is an unreasonably optimistic view of human nature to presume that
presenting someone with an easy method of tax reduction will lull
him into ignoring the more complex ways of escaping taxes. The
maximum tax is simply an extra bonus handed to the wealthy tax-
payer, serving to further reduce his tax burden.

While at first glance it may seem reasonable that no one should have
to pay more than a 50 percent maginal rate on earnings, closer analysis
reveals that such concern is misplaced. Nearly anyone earning enough
to worry about paying higher than a 50 percent rate also has income
from unearned sources-income which is subject to little or no taxes.
Thus, while an individual may indeed be paying 50 percent on a large
salary, he may be paying no taxes on income excluded or reduced
through tax expenditures. In this case the overall tax rate may
actually be as little as 10 or 20 percent.
The maximum tax is not founded on any logical evaluation of the
tax system. It singles out earned income for special tax treatment, but
total income is the only valid base on which tax rates should be im-
posed. With all the special tax preferences available to the rich, it is an
extremely rare taxpayer who pays more than a 50 percent overall rate.
If serious tax reform is enacted so that unusually high overall rates
become a problem, this can be rectified through a change in the basic
rate structure. As of now, however, the maximum tax on earned in-
come should be immediately repealed.

Current tax law permits a taxpayer's first $100 of dividends from
corporate stock to be excluded from taxable income. While this is one
tax expenditure theoretically available to lower income taxpayers as
well as the wealthy, most of the benefits are still realized by those in
the upper income brackets. This is simply because most stockholders
are in the higher income range. In fiscal year 1974, 57.5 percent of
the benefits went to 14.6 percent of the taxpayers-those with incomes
over $20,000.
There is no reason for the Government to favor this select economic
activity over others. It should not be the Government's role to en-
courage investment in stocks over, for example, investment in savings
accounts. Repeal of this tax expenditure will save the Treasury $350
Despite the reforms made in 1969, the current tax rate scheduling
procedures continue to discriminate against both single and married
persons, particularly when both partners work. Certainly different


people have differing living expenses and obligations, but individual
responsibilities should be accounted for through the allowance of tax
credits rather than through the use of different tax rates based on
marital status. Congress must reevaluate the split-income concept
implemented in 1948 and must respond to the need for a tax schedule
with a single rate that will be applicable to each level of taxable
Joseph Pechman and Benjamin Okner estimated that income split-
ting (and tlhe special rates for heads of households that are part of
it) costs the Treasury over $21 million per year (at 1972 levels).
More significantly, 97.5 percent of these tax benefits go to taxpayers
with incomes above $10,000 since low and moderate income taxpayers
receive virtually no benefit from income splitting.

The 1969 act reduced the penalty on single taxpayers who do not
have the advantages of income-splitting by 20 percent, but the in-
dividual taxpayer (never married, widowed, divorced, or married but
filing singly) still pays on a sliding scale up to 20 percent more than
couples who can split their incomes.
Simply stated, there is no logical reason to continue the present
system whereby a single person must pay more in taxes than a married
couple with an identifiable amount of taxable income. The 16th amend-
ment did not tax people. It taxed income from whatever source
derived. Clearly it does not imply that one shall be taxed according
to marital status.
Although the income-splitting concept is defended as an aid to
those with child rearing responsibilities, under present law single
persons filing as heads of households are unfairly penalized. A single
parent earning $8,000 pays $100 more in taxes than the married couple
with one income. At an income of $16,000 this penalty rises to $280
(regardless of whether the couple has any dependents).

As a result of changes in Federal tax law in 1969, married couples
who both work now pay higher taxes than if both were single. Cer-
tainly this tax structure which, intentionally or not, favors those
families with only one working partner, must be adapted to the reali-
ties of today, when often both partnerse work either by choice or by
necessity. While the need for extra funds is felt most heavily in the
lower income brackets, the law bestows its greatest advantages on the
middle and upper income groups. The advantage is given principally
to one-income families and not to those in which the wife's income is
a significant supplement.
Clearly, review of the tax structure is needed to insure that tax
rates do not penalize single individuals or handicap those families
with two or more workers. Althoiluh the substitution of tax credits
for present deductions and exemptions, as recommended in the next
two sections, will alleviate most inequities, alterations in the tax rates
will probably also be needed.


The present system of deducting certain personal expenses from
gross income, or alternatively using the standard deduction, is a
regressive factor in our tax system. This occurs because of the way
deductions are tied to the marginal rate structure. If an individual
in a 70-percent tax bracket gives $100 to charity, $100 is excluded from
the income on which he would normally be paying $70 in taxes. There-
fore, his $100 contribution has actually cost him only $30. On the other
hand, a taxpayer paying at a 14-percent rate saves only $14 by
deducting the same $100 contribution. Why should identical con-
tributions (or medical expenses or mortgage payments) be so much
more advantageous to the wealthy taxpayer?

This inequity can easily be changed by substituting a system of tax
credits. The credit is computed as a percentage of the itemized ex-
penses and then subtracted from the individual's tax bill. Using a 25-
percent credit, a $100 charitable contribution would subtract $25 from
the taxpayer's total taxes, regardless of his tax bracket. This means
equal credit for equal expenses. High income taxpayers will still re-
ceive more credit than those with lower incomes but only because their
personal expenses are generally larger.
Taxpayers using the standard deduction rather than itemizing ex-
penditures would instead receive 25 percent of the deduction as a
credit. This gives some tax relief to lower income taxpayers, who most
often use the standard deduction.
A 25 percent credit for both the standard deduction and itemized
deductions would have a neutral effect on revenues. Translating into
greater savings for lower income taxpayers and less for the wealthy, it
is a redistribution of benefits rather than a total gain or loss.

The $750 personal exemption is another regressive tax provision.
Again because of the marginal tax rate, a $750 exclusion is worth $525
to someone in the 70 percent bracket, but only $105 to a person in the
14 percent bracket, while to an individual so poor he pays no tax, it is
worth nothing. The exemption should be converted to a credit, and it
can at the same time be a major tool for tax relief and restoring pro-
gressivity to our tax system. As a refundable credit of $250, when the,
credit exceeds the tax liability, the difference would be paid to th',
taxpayer by the Government.

Current measures for helping the poor in our society have proved
to be inadequate and limited. There are still many families living well
below the poverty level, because they are ineligible for Government
assistance or do not receive enough to meet their needs. This is par-
ticularly true with today's phenomenally high unemployment rate. A


refundable tax credit for each taxpayer and dependent would add
considerably to the incomes of those with little or no money. Moreover,
putting money in the hands of those less well off is an important
counter-recessionary tool. because it goes right back into the economy
tli rough consumer purchases.
Tlhe $250 credit would provide relief to the middle income taxpayer
also-in fact, taxpayers up to the $20,000 income bracket would benefit
froIm the credit. Middle income wage earners now bear an unfairly
heavy tax burden. They don't have money to take advantage of tax
expenditures, and they suffer the most from the regressive social
security tax. Tax relief for these individuals is long overdue.
The cost of the refundable tax credit would be large-the 1974 esti-
mlate was $13 billion-but the closing of major tax loopholes would
more than coml)ensate for this loss.

Vnder the capital gains provisions of the tax code, only half of the
Iains on capital assets (real estate, stocks, and equipment) held more
than 6 months are included in the income of an individual. The other
half is deducted from income and thus never taxed.
Although special treatment of capital gains results in a huge loss
of revenue annually, it is not included in OMIB's tax expenditure
Analysis because of "practical problems" involved in identifying and
taxing unrealized capital gains. Yet it is estimated that this 50 percent
capital gains exclusion costs the Treasury about $7.4 billion per year-
more than any other single tax expenditure.
What's worse, most of the benefits of the capital gains tax break.
go to the wealthy. A full two-thirds of the benefits go to the 1.2 per-
cent of taxpayers with incomes exceeding $50,000. This is because
it is largely the wealthy who own stock; 78 percent of all Americans
cannot afford to own stock, according to a 1971 University of Michi-
gan survey. The last round of inflation may have cut down even
further on the small group of wealthy taxpayers who stand to benefit
from the capital gains exclusion.
Thus, it is not surprising that Treasury Department statistics indi-
cate that taxpayers with incomes of $10-15,000 received, on the aver-
age, $19.06 from the exclusion, those with incomes over $100,000, an
average of $19,431 per taxpayer.

One argument typically made in favor of capital gains preferences
is that it compensates the investor for inflationary, as opposed to real,
increases in the value of an investment. Tt is noteworthy, however.
that no other form of income receives such an adjustment. There is
no logical reason to single out capital assets.
The inequity of the capital gains exclusion clearly argues for its
repeal. There is no reason why income from assets should be favored
over earned income. Capital gains should be subject to full taxation
just like wages. In addition, appreciation of capital assets should be
taxed at death, with some exceptions and exclusions for surviving
spoiies, farms, and family businesses.

Privately supported charitable and educational organizations are
granted exemption from taxation principally under section 501(c)
(3) of the Internal Revenue Code. In order to maintain this tax-
exempt status organizations must comply with the requirement that
"no substantial part" of their activities is devoted to influencing
legislation of campaign activities. It has long been recognized that
there is no specific test or other reasonable means of ascertaining the
meaning of the word "substantial" as it is used in this section. Several
attempts to clarify the situation in the past have proved unsuccessful.
The 1969 act (26 U.S.C. 4925) also imposed a 10-percent tax on each
taxable expenditure of a foundation. Taxable expenditures under the
act basically include money spent "on any attempt to influence legis-
lation * *" Together these limitations on influencing legislation
are so broad, and so costly if violated, that these groups are discour-
aged from expanding their activities into areas touching upon public
policy. In addition, the wording of section 4945 is so broad as to
suggest that any attempt to affect the opinion of the public on any
matter that might conceivably relate to legislation might incur
These strictures adversely affect the freedom of foundations and
other groups to contribute to the general welfare. In the past, foun-
dation-sponsored programs and activities have often led to a recog-
nition that changes were needed in local or national conditions and
that new legislation was required. It is clear that the legislative intent
was to prevent foundations from engaging in partisan politics. In
light of this purpose, modifications should be made so as to enable
the language of the law to reflect more accurately the desires of Con-
gress and leave room for legitimate functioning of foundations on
behalf of the general welfare.
While charitable and educational organizations are limited by the
"no substantial part * *" requirement, business organizations, trade
associations and unions have the right to engage in such activities
without quantitative restriction. Congress must now reconsider the
ABA recommendation that it pass legislation with respect to tax-
exempt organizations. Certainly if the goals of these organizations
are such that the Congress has found them to be worthy of tax-exempt
status they arguably should be able to use their expertise to influence
legislation in promotion of these established goals.

As a result of the Tax Reform Act of 1969, foundations are faced
with the threat of a diminishing capacity to support those charities
which are dependent upon them for their survival.

The 4-percent excise tax upon investment income of private foun-
dations was originally intended to fund the administrative costs of
IRS enforcement of provisions affecting the creation, operation, termi-
nation of foundations, as well as the flow of their moneys under the


1969 act. In reality, the revenues produced by this tax have been much
greater than the cost of administration of all tax-exempt organiza-
tions. Unless this distortion is remedied, what was essentially an audit
assessment will continue to be, in effect, an indirect tax upon private
charity itself. This is contrary to a strong congressional tradition of
supporting private philanthropy. While some may claim that 4 per-
cent is not an excessively high tax, it nevertheless establishes a poor
l)precedent for the future. Regardless of whether the foundations can
afford the tax, the larger question is whether the private sector can
afford such a reduction in funding. The most effective means of deal-
ing with this problem would be prompt establishment of a flexible
rate system which would be adjusted from time to time to deal with
changes in administrative costs. In the interest of the institutions and
persons who are the potential beneficiaries of foundation activity, we
urge that the level of the excise tax be adjusted to the real cost of
administering the law.

The "payout" requirement for private foundations has also had
a negative impact. The rate of growth of foundation assets is in fact
dependent on their payout rates (grants as a percentage of assets)
relative to the rate of return on their assets. The combination of
rising costs of foundation-supported activities and the high payout
requirements under the act would seem to imply a decline in the
future role of foundations. Especially in view of the budgetary re-
straints on the expansion of governmental social programs, the needs
for services which foundations meet are not likely to diminish, and
there is urgent need for reexamination of required annual payout
requirements and the disincentives to the establishment of new
Congress has properly mandated that foundations should use their
resources for the full benefit of those they are designed to serve. While
no foundation would argue with this principle, the law presents
problems. Foundation services are highly labor-intensive and offer
few opportunities for increased productivity. Therefore their costs
of operation rise faster than inflation in other sectors of the economy.
This factor coupled with the high payout requirement would appear
to indicate the probability of a progressive decline in the real suiport
power of existing foundation funds. Congress must act to lower
mininmum payout requirements and establish lare'er transition periods
for meeting' these requirements. Foundations have been diligent in
their adherence to the requirements of the 1969 act, and there is no
reason to believe that lowering( distribution requirements would result
in "hoarding" of funds by foundations. Foundations should not be
forced to make greater payouts and settle for investment returns
which a prudent investor would find unreasonable. To retain the
present rule risks a possibly fatal impact on the future of such

In principle, taxes on gifts and inheritances constitute a potential
source of equity and progressivity in our system. Levied on wealth


rathlier than on income, the estate and gift taxes fall primarily on
rich. Roughly, 5 percent of estates are subject to estate tax in any
year. Two-tenths of one percent of all estates, those in the $500,000
and over bracket, paid 60 percent of the total estate tax bill in 1970,
the most recent year for which data is available.
From the standpoint of fairness, the estate and gift taxes serve
an important function-that of breaking up vast holdings of wealth
and thereby insuring that democracy is not jeopardized by the emer-
gency of self-perpetuating concentrations of wealth. Especially in to-
day's society, characterized by massive holdings of wealth by a few
individuals, it is critical to deal with the problem of equitably dis-
tributing the Nation's wealth.

Taxing the transfer of wealth at death has long been recognized
both in the United States and abroad as a sound procedure. Because
the estate tax is imposed at death, it is a relatively painless way of
raising substantial Government revenues. There is no one who feels
sharply the impact of the tax, so that it has minimal effect, if any,
on incentives and risktaking. Moreover, it should not be forgotten
that the income tax specifically exempts income received by gift or
bequest, so that estate and gift taxes fill in a critical gap in the tax
system. Moreover, the Treasury Department estimates that between
40 percent and 50 percent of the value of estates represents untaxed
capital gains-real estate and other possessions that increased in
value while the owner held them, a value which was never subject
to income tax during the life of the owner. Given this relationship
between estates and income taxation, the estate and gift taxes merely
insure that all wealth is taxed at least once in each generation.

Unfortunately, the revenue-raising and equity-producing potential
of the estate tax has been seriously eroded by the separate rate sched-
ules of the estate and gift taxes, by the generation-skipping trust, and
by the deduction for charitable contributions.
The basic form of the'estate and gift taxes has remained generally
the same since 1942: separate estate and gift taxes, graduated upward
as the value of the taxable estate increases, are imposed on wealth trans-
ferred at death. However, because of the separate exemption and rate
structures, an individual who allocates a $1 million estate equally
between gifts and bequests pays estate taxes of $247,055, while if he
passes on the estate entirely through bequest, he pays $75,000 more in
taxes, a total of $325,700. Such reductions in tax liability are made
possible through l liberal exemptions (gift tax exemptions of .30.000 in
lifetime gifts plus $3,000 per donee; estate tax exemptions of $60,000)
and through generously low gift tax rates, which are 25 percent lower
than the already low estate tax rates.
The value of the gift tax incentive rises dramatically with wealth,
since not only are the wealthy better able to donate their money to
others, but they are able to give more money to more people.
There is little or no value from the Government's viewpoint in en-
couraging gifts over inheritances in this way. Whether an individual


chooses to give property to his or her children before death should
logically be a matter between the individual and his or her children.
The Nation is not particularly benefited one way or another.
Given the inequities caused by imposing separate tax and rate sched-
utles on gifts and bequests, and the tax complexities resulting from
maintaining two separate taxes, it is our recommendation that the two
taxes be combined. One tax rate should be imposed on all gifts made
over the lifetime of the donor and on those gifts made before death,
with total taxes at death correspondingly reduced.

One major loophole in the present estate tax which significantly
curbs the revenue-generating (r capacity and detracts from the impartial-
ity and equity of the tax is the generation-skipping trust. By estab-
lishing a trust meant for remote descendents, a wealthy individual can
transfer money to his grandchildren while avoiding estate taxation.
Yet, his immediate family can receive all of the income from the trust
fund, along with a healthy share of the principal, and make many of
the critical decisions about the disposition and management of the
property. In this way, the property-belonging for all intents and pur-
poses to those who manage it and spend it-can escape taxes as many as
three times simply because the property is not owned outright.
As a result of this abuse of the estate tax law, control of wealth and
property can pass undisturbed from one generation to the next. Three
out of every five millionaires transfer a portion of their property and
wealth in trust, and half of this property and wealth escapes all
estate and gift taxes until the death of the grandchildren or great
The device of the generation-skipping trust-so valuable to families
of great wealth-is of limited value to those of moderate means. For a
variety of economic reasons, those with small estates must leave their
property to their immediate family, since those of moderate means
cannot be sure that their wives and children will not need the money
for medical or other emergencies. It is not until family wealth becomes
so immense that no conceivable emergency could deplete the family's
resources, that the generation-skipping trust becomes a valuable and
invariably used tax shelter. Thus, while those with great wealth escape
estate tax action, those with moderate holdings must pay estate taxes
each generation.

To remedy the present inequity, the Federal Government should
enact a surtax-in addition to the regular estate and gift taxes-on
transfers of wealth that skip a generation. Such a surtax-if imposed
at a rate equal to 60 percent of the donors marginal e(,state or gift tax
rate-would to soiiie extent equalize the taxes paid by those who trans-
fer money through use of the trust mechanism and those who are un-
able to resort to such mechanisms. The Treasury studies proposal of
1969 recommended a 60-percent substitute tax or surtax on generation-
skipping trusts in or(ler to collect those taxes that would otherwise be
foregone. WVe support such an approach to the problem posed by the


generation-skipping trust, since it would eliminate the most outrageous
inequities of the existing loopholes.

Provisions in the present estate tax law which allow an estate to
take an unlimited tax deduction for bequests made to qualified chari-
ties is one feature of the present estate tax framework drastically in
need of correction. It is this loophole which allowed Alisa Mellon
Bruce, with an estate value at $580 million, to pay taxes less than 1 per-
cent in Federal estate tax when she died, simply because the bulk of
her estate went to the Mellon Foundation, a tax exempt charity. A
similar unlimited charitable deduction is allowed under the gift tax.
The millionaires who take advantage of this deduction have for the
most part retained control over their money even after giving it to
charity. This is accomplished simply by transferring the nonvoting
stock of a family corporation to a private "family" foundation. By
transferring only nonvoting stock to the foundation, the family re-
tains control over the business.
As desirable as voluntary giving to charitable organizations may be,
there is little justification for allowing a 100-percent deduction in
the case of a transfer to a private foundation. Recently there has been
much criticism and questioning in general of the Government's proper
role with respect to such charitable organizations, as well as extensive
analysis of whether various tax incentives now on the books signifi-
cantly stimulate voluntary giving in support of charitable causes.
In contrast to the overly generous estate tax giveaway, the income
tax limits charitable deductions to 50 percent of income. It would be
a relatively modest and sensible change with little impact except on
those few millionaires with private foundations, to limit the estate
and gift tax deduction to 50 percent of the value of the estate-or the
value of lifetime gifts-in keeping with the 50-percent limitation
under the income tax.
The current structure of the payroll tax is inconsistent with prin-
ciples of tax equity and progressivity. Under present law, a 5.85 per-
cent tax-11.7 percent including employer contribution-is imposed
on all earnings, up to a maximum base of $15,300-$16,500 in 1977.
This setup presents a number of problems to low- and middle-income
For the low-income worker, the social security tax becomes the high-
est tax he pays, higher than regular income tax. There are no provi-
sions to exempt the poor from being taxed, such as the standard deduc-
tion and personal exemption in the income tax system.
Any attempts to alleviate the tax burden of the income tax on those
with low incomes are thwarted by the fact that the poor are still suf-
fering an unduly heavy social security tax.

The social security tax unfairly assumes that equal income means
equal ability to pay. The income tax system recognizes that a taxpayer

72-251 0-76-----4


with dependents should not pnvay as much as the single taxpayer;: equity
dictates that the payroll tax should take this into account also.
The middle-income worker is treated unfairly too. since he is pay-
ina the same amount of tax as the wealthiest wane earner, since A895-
5.85 percent of $15.300 is the maximum any individual is required to
pay. At the same time, the middle-income worker doeo not receive the
same benefits in proportion to payments as does the low-income
The inequity of the social security tax deserves special considera-
tion at this point in time. when the trust fund itself appears to be in
trouble. For over a year now, from both in and out of Government,
there has come a succession of increasingly bleak reports on the sound-
ness of the social security trust fund. Tlhe trustees now estimate that
benefits will begin outstripping tax collections this year rather than
in the 1980's as expected. In fact, if nothing is done soon to increase
funding, the trust fund may be exhausted in 1981.

Congress has a number of alternatives from which to choose in order
to stabilize the trust fund and in order to make the social security tax
more progressive. First the maximum earnings base subject to tax
can be increased from its present level of 115.300 to .*24.000. This in-
crease of $9.000 in the wage base would return the program to its orig-
inal intent-that all workers should have their full wages counted
toward social security benefits and subject to the payroll tax. Today
only about 85 percent of the workers covered by social security have
their total earning counted, while in 1938 the proportion was much
hirher-97 percent. Moreover, by raising the wage base. the contribu-
tion rate would not have to be increased and the security of the trust
fund would be firmly established.
Second, employer contributions to the social security system can be
increased to comprise more than half of total costs. This is particularly
justifiable in view of the fact that the employers' contribution is tax
deductible as a business cost while the workers' contribution is part
of taxable income. Third, and perhaps most important, the Congress
could enact standby authority to use general revenues for the financ-
ing of social security whenever necessary. This could be done simply
by restoring to the social security law the provision for general revenue
financing that existed from 1944-50.

In the long run, we may do best to follow the example of foreign
social insurance systems and enact a combined retirement and health
insurance structure financed partly by employer contributions, partly
by employee contributions and partly by contributions from the Gov-
ernment, out of general revenues, in recognition of the Nation's stake
in, and the critical importance of. ) well-functioning social insurance
It is clear that the tax system is in need of major reform, and the
Council has outlined a program which would be an important step in


the direction of tax justice. It is hoped that all of the proposals we
advance will eventually become part of the tax law, but assuming they
will not be enacted this year, it is critically important that the Con-
gress extend the Tax Reduction Act of 1975 through fiscal year 1977.
The tax expenditure concerns of the Council on National Priorities
and Resources are directly responsive to our concern for meeting the
needs of our country. Comprehensive tax reform along the lines out-
lined here will go far toward meeting tlhe needs of all Americans for
adequate income by alleviating the heavy tax burden that now falls on
low- and middle-income workers. We pledge ourselves to continue
working with you as you begin to remedy the defects of our tax sys-
tem, and we welcome the continuation of the dialog begun here today.
Senator MONDALE. Mr. Bade.

Mr. BADE. Mr. Chairman and members of the committee, my name is
Carl A. Bade. I am presenting this statement on behalf of the U.S.
Power and Priority Team and the Economic and Racial Justice
Priority Team of the United Church Board for Homeland Ministries.
While no one person in an agency can speak for all of the 1,800,000
members of the United Church of Christ, we do have a reasonable
reading of the leanings of the active members in the form of state-
ments by the elected General Synod. After many years of study by
the members of the United Church of Christ, the Seventh General
Synod in 1969 passed its pronouncement on tax reform entitled "Shar-
ing the Cost of Government Fairly." 1 I would appreciate its inclusion
in the record.
Mr. Chairman, I amn pleased to be here today to offer some views on
how the tax laws should be changed in order to encourage sound
stewardship of our national resources and a more equitable distribu-
tion of their benefits to all. This Bicentennial year offers a great op-
portunity to establish a more humane and democratic society that is
responsive to the just needs of all Americans. If that objective is to be
achieved, reform in our tax structure is a prerequisite. Nowhere is the
power of the Government more apparent and pervasive than in its
ability to levy taxes. The levying of taxes-or who pays and who gets
what, is directly related to the concept of social justice-a concept to
which we should all be committed.

Basic fundamental reform of the tax system is long overdue. The
system suffers from widespread inequity and injustice. Recent reports
of massive tax avoidance by wealthy individuals and corporations are
not only revolting to the majority of hardpressed citizens but they
also lead to an erosion of confidence in the fairness and integrity of
Government-a confidence that we can ill-afford to lose. Data on the
inequities of the present system are so well documented that it is not
necessary to recount them here. We sincerely hope that the members
SSee p. 102.


of this committee are aware of these shortcomings and are seriously
committed to address them.

"Tax expenditures," a relatively new concept represents an accumu-
lation of tax preferences, subsidies and exclusions that have been en-
acted over the past few decades. Although "tax expenditures" cost over
$90 billion in 1976, up from $44.1 billion in 1968 it was not until 1976
that such figures were included in the budget. It has been rightly
acknowledged that it is only through study of these expenditures that
the total impact of the Federal Government on the economy can be
measured. Senator Muskie has correctly observed "Tax expenditures
cost money, help some people and buy consequences just like any other
government expenditures." They, therefore, need to be very carefully
scrutinized. A proper understanding of tax expenditures is essential
if the Congress is to properly analyze the total budget picture and be
effective in the reordering of national priorities. To be sure, the bene-
fits of some tax expenditures fall mostly to lower or lower-middle in-
come taxpayers-for example, public assistance payments and dis-
ability insurance benefits are not taxable. For middle-income taxpayers,
unemployment insurance and Workmen's Compensation benefits are
not taxed. Yet, when studied on a per capital basis, tax expenditures
overwhelmingly favor the rich. On the average, based on 1972 esti-
mates, an individual at the $3,000 to $5,000 level received $10 in tax
expenditure assistance; in the $25,000 to $50,000 bracket, $1,358; in
the $100,000 to $500,000 bracket, $29,264; and in the $1 million bracket,
Despite the harsh criticism of tax expenditure they are not all uni-
formally bad. There are some provisions that are designed to help
people meet basic human needs and/or to induce appropriate economic
activity. The tax expenditure table makes it possible to look at each
listing and ask some very penetrating questions:
-Should the Government be assisting the particular activity as a
matter of national priority? Does it serve the major public
-What are the legitimate goals of the subsidy? Can they be
justified today?
-To what extent are these goals being met?
-What would be the real effect of eliminating the subsidy?
-Does the subsidy substantially decrease the ability of the Gov-
ernment to maintain control over the management in its pri-
orities? Does the subsidy run counter to the need and desire
to reorder some national priorities?
Negative answers to these questions should result in elimination or
severe modification of the subsidy. Subsidies for example, that accrue
to the wealthy, that serve no national purpose and that help to per-
petuate income inequality and the maldistribution of wealth should
be clearly done away with. If the Government decides to spend money
to support and reward activities it makes little sense to do so by


providing the highest benefits to those with the highest incomes. "The
test of our progress" Franklin Roosevelt once said, "is not whether we
add more to the abundance of those who have much. It is whether we
provide enough for those who have too little."
Let us now look at some of the major tax expenditure items with
the above questions in mind.


A major tax expenditure favorable to the wealthy is listed in the
tax expenditure table as "capital gain: individual." This item refers
to the special treatment of income that results from the sale of appre-
ciated stocks, real estate, oil properties and other capital assets (in-
cluding certain uses of livestock, unharvested crops, etc.) On this type
of income the tax rate is cut in half.
Capital gains mainly benefit the wealthy, those individuals who
need the benefits the least. We therefore recommend, as outlined in
ref. 2(a) in the General Synod pronouncement that:
The present preferential treatment afforded most capital gains should be
eliminated and such gains should be taxed at the same rates as any other
income. Provision should be made for averaging the gain.< over the years in-
volved to prevent unduly high rates for a single year. It is contrary to most
notions of fairness that capital gains income should be taxed at lower rates
than income earned as wages or salaries!

The investment tax credit was designed to encourage moderniza-
tion of plant and equipment, which in turn was supposed to stimulate
the economy. While it is one of the most expensive tax expenditures it
is quite limited in scope and its overall benefit as a stimulant is being
seriously doubted.
We recommend that the investment tax credit as presently con-
stituted be repealed and that the committee should consider alterna-
tives such as direct subsidies to needy and labor intensive industries,
as a way of stimulating those segments of the economy most in need.

While tax shelters of any kind and from whatever source run
counter to the first principle for tax reform enumerated by the Seventh
General Synod, it took a particularly dim view of oil, gas and mineral
depletion allowances.
"The preferential treatment extended to taxpayers who invest in
oil, gas and mineral properties should be ended . ."
The Tax Reduction Act of 1975 made some headway in cutting
this tax expenditure. Yet the depletion allowance remain fully in
effect for tens of thousands of oil, gas and mineral producers.
Complete repeal of the depletion allowance, which has long outlived
its declared purpose and usefulness, would go a long way in restoring
a sense of fairness and equity to our tax structure. By the same token,
it would also help restore some confidence both in Government and
in the business community.


The past 40 years have witnessed an ever increasing number of
American companies that are locatiiig abroad. This expansion abroad
lhas severe effects on the U.S. domestic economy in terms of jobs that
are lost, technology that is exported and decline in the U.S. balance
of trade. Some of the biggest American corporations now have more
than half their total employment overseas. Why has this trend been
happening? The location of natural resources and the availability of
low cost labor are factors in drawing U.S. investment and production
overseas. Yet the dollar incentives of tax loopholes are generally
recognized as being a major (if not the major) factor. To the extent
that the tax laws place an incentive for companies to go abroad to
the eventual detriment of the national economy and national needs,
they are in direct conflict with the criteria of neutrality enunciated in
the General Synod pronouncement. "Taxes should not create artificial
incentives for making economic decisions except where explicitly
intended as a matter of public policy * *"
American international corporations presently enjoy the benefits
of a long list of tax preferences. The list include the following:

DISC, a concept originated by the Treasury and enacted in 1971,
as a device for reducing the income taxes of firms that export U.S.
products. It was intended to encourage the export of domestic prod-
ucts and by so doing to remedy the adverse balance of payments situa-
tion in 1970-71. This provision cost over $1.5 billion in 1976 up from
$640 million in 1973. (In 1973 its cost was almost four times more
than the projected cost of $170 million).
DISC has outlived their usefulness, they have failed to accomplish
their objectives. Furthermore, benefits accruing as a result of the pro-
vision, are actually less than the cost of running the program. We
support complete repeal of this unjustified tax expenditure. The Tax
Reduction Act of 1975 moved in this direction by eliminating DISC
benefits for natural resources and energy products. The process should
now be completed.
The foreign tax credit offers blatant tax subsidies to the foreign op-
erations of U.S. multinational firms. This subsidy overtly discrimi-
nates against business within the United States and provides major
incentives to move production overseas. It is actually more profitable
to produce abroad than to produce and invest and create jobs within
the United States. We support a repeal of the foreign tax credit and
its substitution with a simple deduction as a cost of doing business.
This is how State and local taxes are dealt within and the concept should
be extended abroad.

Over the years a whole new industry of tax preparers has grown up
because of the increasing complexity of the tax laws. They are even
more complex this year than ever before. The law has been significantly

changed with the addition of the new $30 tax credit for each exemption
as well as the new earned income credit for low-income families. Other
changes have been made, not only in the law itself but also in the inter-
pretations of the law handed down by the courts and in new rulings
by the IRS.
This increasing complexity results in the taxpayers failure to under-
stand the law. Returns for 1975 already received by the IRS make
this abundantly clear. What is more troublesome is that tax collectors
themselves are not clear on much of the new law. A Government opera-
tions subcommittee in the House of Representatives learned last Decem-
ber that tax advice given by agents at district IRS offices had been
inaccurate approximately half the time.
Senator MOXDALE. That is correct.
You know in the Senate we passed a bill, and I strongly supported
it to provide an alternative optional tax credit-I think the first bill
was $200. Unfortunately in the Congress they just threw that out and
gave everybody a $30 credit. And that creates complexities that made
it very difficult the next time around to go baclk to the optional credit
approach. All we got was a $5 increase in the universal credit. Then we
put in anll optional credit of 2 percent of gross income. It is so complex
that nobody can follow it now.
Mr. BADE. Unfortunately we lost that because it is more equitable
when we are dealing with tax credits as over and against exemptions.

One of the criteria which the General Synod considered to be basic
to a just. tax system was that of simplicity.
The law should be understandable to the taxpayer and relatively
easy for both taxpayer and government to administer.
The present analysis of tax expenditure items and the elimination of
many of them can help, yet we believe that the whole issue, the need
for simplification warrants major attention. Maybe it means revamp-
ing almost completely the whole present tax structure and its replace-
ment with a more simple-straightforward mechanism such as a
possible graduated gross receipts tax. One thing is certain-allowing
the 1040 form to become more complex and the instruction pamphlet
longer cannot be justified.
The current debate on the financial soundness of the Social Security
System raises a major social policy question for this committee-
whether or not to make the present social security tax consistent with
the principles of tax equity and progressivity. This issue is at the
center of the debate on how to assure the fiscal integrity of the social
security trust fund. While the Congress has many alternatives from
which to choose we believe that the best way this can be done is by sub-
stantially increasing the maximum earnings base for contributions and
benefits. Under the existing law which provides for the automatic in-
crease in wages the base would be about $17,000 in 1977. We believe
that an increase to about .24.000 in 197'T would result in enough addi-
tional income to cover expected expenditures in the near future and
rebuild the reserve fund.


Mr. Chairman, the mechanisms set up under the Budget Reform Act
of 1974 offer a real opportunity for intelligently coordinating tax ex-
penditure policy with budget policy in the context to national prior-
ities. All this, together with the commitment of Members of Congress
and this committee means that there is now more than ever before a
better chance to achieve real tax reform based on the principles of
equity, progressivity and fairness. Toward that end we offer our help.
Thank you.

Senator MONDALE. Thank you very much. The previous witness
argued that the tax preferences directed toward increased capital ac-
cumulation were poorly evaluated under the present system because
the secondary effects, as they described them, are not calculated-and
that while you might argue that these preferences deliver more tax
advantages for the wealthy, as I understand their arguments, the
preferences are reflected in increased capital investments which means
more jobs, higher economic activity, et cetera. And the earlier witnesses
argue that the present structure is unduly tilted toward consumption
and that we have got to move toward savings so that the money is
there for capital investments. How do you deal with these arguments?

Mr. CANTOR. No. 1, I think we are just discovering and rediscover-
ing and rehashing some real basic economic issues here as to whether,
in the vernacular, it is trickle down or perculate up. The argument, as
I understand it, presented by the National Association of Manufac-
turers is an assumption that our tax structure penalizes investment
and therefore by penalizing investments you do not get the invest-
ments and productivity necessary. In terms of our present economic
circumstances a key major issue is that there are over 7 million people
unemployed and, according to official statistics from the Federal Re-
serve Board, industry is running at about 70 percent of its capacity.
Under such circumstances, I cannot envision any kind of tax policy,
particularly in the light of this committee's consideration for the up-
coming budget year, that is going to really induce investments when
there is so much excess capacity.

At this stage of the game the most compelling issue is how are we
going to increase purchasing power; how are we going to get the de-
mands for goods and services. With that demand and with that pur-
chasing power, in my eyes, will come business investments, business
profits, cash flow, and productivity. We are in a very, very dangerous
position in the recession cycle, and now is no time to undertake any
kind of policies which would further hamper, either directly or in-
directly, consumer spending and consumer purchasing power, by
spending toward more incentives to business when they are operating
at low capacity levels.


Senator MONDALE. I understood the AFL-CIO opposition to tax
credit had softened.
Mr. CANTOR. No. Our opposition to the investment tax credit re-
mains the same. The circumstances changed considerably in that, if
the Senator recalls, a little over a year ago there was a meeting of the
Labor Management Advisory Committee. This was very, very close
upon the heels of the President's inflation message and the President's
proposals to increase taxes. As members of the Labor Management
Advisory Committee we were, quite frankly, scared stiff. We felt the
economy was being pushed to the brink of a disaster. We felt that by
going along with management, we could achieve our position for a
much more equitable tax cut for low- and moderate-income people. As
a result, management compromised and we compromised and we put
together a package.
The real major goal there was to get something going to prevent the
economy from going over the brink of disaster. We sought something
that we could all agree on where we thought the President was going
to go for a tax increase. Our official statement now on the investment
credit is that as soon as the economic emergency is over, and we do not
feel it is over yet, that this should be repealed.
Senator MONDALE. Mr. Young.
Mr. YOUNG. I just wanted to add. Senator, that the statement that
was made earlier this morning about looking at secondary effects is one
of those statements that I think everybody can agree with in gen-
erality. but when you start to look at the specifics and the results we'll
have the greatest disagreements as to what the effects really are and
I think the witnesses this morning indicated that. The problem is not
whether or not to look at those secondary effects and to take account
of them, but to really measure what they are and to really decide to
what extent things like tax credits-the investment tax credit, in par-
ticular-really stimulate additional investment; to what extent the
kind of proposal we heard this morning of giving people tax credit for
saving money will really cause people to save more money than they
are now saving. I think we can all agree that we ought to measure that
but when we start to measure it we are going to come up with very
different results as to what it means.

Senator MONDALE. Do you think our tax laws presently favor un-
wisely consumption versus capital accumulation?
Mr. YOUNG. I think that whether or not people save money, or
whether people consume or invest, are much more affected by things
like their current economic levels and their security of employment
than the question of whether or not they will get a tax deduction for it.

Senator MONDALE. Is it not also the case that capital accumulation
has a lot to do with the condition of the economy? If we have full


employment we will be generating a lot more capital. As a matter of
fact, improved as modestly as the economy is, I hear that profits this
year are expected to rise quite drastically, and the percentage of gen-
eral accumulated capital is now at very high levels. I sometimes get
the idea that working Americans are being asked to pay three times-
once through a stagnant economy which is reflected in high unemploy-
ment, et cetera, which they pay for, and then since the economy is stag-
nant and generating no revenues, through a cutback in social
programs, and then through a cutback in tax revenue base to make up
to one sector of the economy the cost of an unduly restrictive economic
Just take this payroll tax that several of you mentioned. If we were
at full employment we would not have to worry about that payroll
tax. Over the long run, there would be some modest adjustments
needed because of demographics. But the real problem is that instead
of running a $13 billion trust fund surplus, which we would have at
full employment, we are running a $3 billion annual deficit. So we are
saying 8 million are unemployed, that is too bad, but more than that.
for those of you who are working we have another $8 billion or $10
billion increased tax on working Americans. It is an unemployment
tax which I think would discourage taking on new workers been,,s. it
is an additional tax directed at the cost of employing people. Is that
correct ?
Mr. YOUNG. I think so, yes, sir. I think the other points are the
kinds of things that a tax credit are spent for. We would not be
assured they would really increase employment.

Senator MONDALE. Does the UAW favor the repeal of the invest-
ment tax credit?
Mr. YOUNG. Yes, sir.
Senator MONDALE. You do?
Mr. YOUNG. Yes, sir. We indicated at the time we supported the tax
credit that it was for much the same reasons that Mr. Cantor said;
that our support was in terms of dealing with an immediate problem.
We had to get agreement on an overall tax cut. We clearly indicated
that was intended to be just a temporary move and we are in favor
of having the investment tax credit repealed.
Mr. BADE. I would like to point out, if I may, that I have indicated
we would like it repealed. If there is need, that it would be by direct
subsidy so we really know where the need is and it is directed at a
labor-intensive industry rather than what is happening with a lot
of the tax investment credits, that it becomes machine-intensive.
Therefore many people are released in terms of the whole matter
of development of efficiency in jobs and industry and all the rest. So
we face the samie problem, more people unemployed by the fact that
there is an increase in the efficiency and the use of possibly more

machines. I am not against the use of technology but if we are looking
at the whole matter of full employment we are faced by that kind
of thing. So why not put it where we really know we need it and if
at all possible put it in labor-intensive industries.

Senator MNONDALE. There is one other question, about whether or
no(t revenue gaining tax reform proposals should be made retroactive
to January of this year. What is the alternative? January this year
or January next year, do you have an opinion on that?
Mr. CANTOR. I think it is dependent on the type of provision you
are discussing. The fact of the matter is that people pay withholding
now and during the current year but the reconciliation does not have
to take place until April 15. In the area of the present tax cut, which
is slated to expire on June 30, action has to be taken to reconcile this
issue. There are perhaps certain areas where there would be problems
and other areas where there would not.
Senator MONDALE. Is there any other comment on that question?
Mr. YOUNG. There should not be any problem with the minimum
tax area. On DISC or those areas the House has acted on on the
floor, the corporations have all been alerted and I am sure they have
set the funds aside.
Senator MONDALE. If you did something else there might be a
retroactive problem because they have not been warned?
Mr. YOUNG. These are just looked upon as contingent liabilities at
this moment.
Senator MONDALE. Are there any other observations? If not, thank
you very much.
[Whereupon, at 11:35 a.m., the task force adjourned, to reconvene
at the call of the Chair.]




Additional copies of this report
are available upon written request to:

Fiscal and Economic Policy Department
National Association of Manufacturers
1776 F Street, N.W.
Washington, D.C. 20006


$1.00 per copy for NAM members postpaid

$2.00 per copy for non-members postpaid

August, 1975

Two sets of figures, which appeared in the first printing, have been deleted
from this second printing. In the first printing, on pp. 1-9 in the columns
labelled "5 YR CUM TOTAL" and on page iii,in the column labelled "Five Years
Cumulative," there were figures for manufacturing employment and total
employment which should be interpreted as cumulative man years gained or lost,
not net changes in the number of job opportunities. To avoid possible
confusion, this second printing has deleted all man year figures. In the
tables on pp. 1-9 and page iii herein, the employment figures represent the
estimated net changes in job opportunities through the end of each of the
five years.



June 16, 1975

The Committee on Taxation of the National
Association of Manufacturers undertook this Tax
Impact Project to begin developing a better method
of estimating the overall economic consequences of
proposed changes in federal taxation of business
income. Because of the very close relationship
between federal tax policy and economic activity,
we believe that it is essential for major tax pro-
posals to be considered in conjunction with objective
analyses of their impact on capital investment, employ-
ment and the income tax base.

This report is one approach which we believe can
be useful at the present time and stimulative of
further development and refinement of the analysis
of tax proposals in the future.

The project was developed by a special task
force of committee members whose very considerable
efforts have resulted in the preparation of this
report. The task force was provided technical
advice and assistance by Dr. Jerry E. Pohlman of
Arthur Young and Company, New York, New York.

E. A. Vaughn /
Committee on Taxation



This report describes a study of the impact on the economy which would be
generated by each of seventeen proposals for changes in federal taxation of
business income. Survey data were obtained from 313 diverse corporations
representing 36% of total U. S. manufacturing sales. These data were used
as input to a large macroeconomic computer model of the U. S. economy.

Every change in taxation of business income naturally would affect both
corporate earnings and the entire economy in some way. The purpose of the
Tax Impact Project is to focus on this relationship and to develop information
which will be of use during the consideration of proposed modifications of the
U. S. tax structure. The report presents the findings of the project in a
manner which allows for comparisons of the economic impact of various proposals.
The findings indicate that certain proposals are of major importance to the
business community in allocating its resources in the most efficient manner.

Seventeen proposals for changes in federal taxation of business income were
studied, and their overall domestic economic impact is described as changes in:


It is recognized that the Tax Impact Project represents only one of a number of
possible approaches to the economic analysis of tax proposals. As such, it is one
step in the development of a reasonable method for obtaining such analyses. Thus,
this report is intended to indicate the direction and the order of magnitude of
the impact of the tax changes which were studied. In this regard, the econometric
findings presented in this report should only be interpreted as somewhat imprecise
estimates -- as are all estimates of what will in fact happen in the future.

The project is not simply a scale-up to the whole economy from the survey
response data. Through use of a large macroeconomic model, it also takes into
account a complex array of interactions and feedback effects between different
parts of the economy, which are intended to simulate the real economic world.
Such effects, of course, do not occur simultaneously. The findings are best
interpreted as the likely economic consequences a few years after enactment
of a tax proposal, i.e., after the effects of the proposed change would have
had a chance to worktheir way throughout the national economy.

body of the report for real fixed investment, manufacturing employment, real
GNP, and net federal tax receipts.



Proposed Change

10, Investment Credit
40% ADR

3. Current CFC taxation
with no foreign tax credit

4. Repeal of the investment credit
5. Repeal of the foreign tax credit
6. 50% corporate rate
7. Current CFC taxation
8. Repeal of ADR
9. Multiple changes in the
minimum tax
10. Repeal of DISC
I1. Repeal of tax deduction
in minimum tax
12. 30% rate in minimum tax
13. Repeal of "possessions" treatment
14. Repeal of minimum distributions
15. Repeal of "per country" limitation
16. Repeal of WHTC
17. Repeal of LDCC exceptions

Significantly, the findings indicate that
reduce the level of total employment over

First Year

+ 80,000 jobs
+ 70,000


- 60,000
- 60,000
- 50,000
- 40,000

- 20,000
- 10,000

- 10,000
- 10,000
- 10,000
- 10,000
- 10,000
- 10,000

most of these pro
a period of time.

Fifth Year

+340,000 jobs





posed changes would





Table of Contents
SUMMARY OF THE REPORT.................................................... ii-iii

INTRODUCTION... ....................................... ...... ................ vii

FINDINGS OF THE PROJECT................................................. 1

Major Proposals Affecting Domestic Source Income:

10% Investment Tax Credit........................................ 1
40% ADR .......................................................... 2
Repeal of the Investment Tax Credit.............................. 2
Repeal of ADR .................................................... 3
50% Corporate Tax Rate........................................... 3

Major Proposals Affecting Foreign Source Income:

Current Taxation of CFC Earnings................................ 4
Repeal of the Foreign Tax Credit................................. 4
Current Taxation of CFC Earnings
coupled with Repeal of the Foreign Tax Credit.................. 5
Repeal of DISC Provisions....................................... 5

Other Proposals

Changes in the Minimum Tax...................................... 6
Repeal of "Possessions Income" Treatment......................... 7
Repeal of "Minimum Distributions"................................ 8
Repeal of "Per Country" Limitation............................... 8
Repeal of Western Hemisphere Trade
Corporation (WHTC) Provisions................................. 9
Repeal of Less Developed Country Corporation
(LDCC) Provisions............................................. 9

WHY A TAX IMPACT PROJECT?............................................... 10

The Income Tax in Our Economy..................................... 10
The Relationship Between Tax Policy
and Economic Activity............................................ 11
The Need for More Comprehensive Information........................ 12
Selection of the Econometric Approach............................. 12

METHODOLOGY OF THE PROJECT... ...................................... 13

The Survey ......................................................... 13
The Econometric Model............................................. 14


72-251 0- 76 5



Major Proposals Affecting Domestic Source Income.................. 19
Major Proposals Affecting Foreign Source Income ................... 20
Other Proposals ................................................. 21

APPENDIX B: INDUSTRIES SURVEYED....................................... 23


The Survey of NAM Members........................................ 25
The Microeconomic Effects......................................... 26
The Feedback Effects: Use of the Macroeconomic Model............. 29
Assumptions of the DRI Long-Term Model........................... 32
Data Sources ..................................................... 34
References and Selected Bibliography............................. 36



The federal income tax plays a very significant role in the functioning of
our economy, and changes in the tax system can have a very significant impact
on the general health of our economy, particularly when those changes affect
the industrial sector. Capital investments in new or modernized production
facilities, which thereby create new employment opportunities and increase
overall economic activity, are funded generally by capital consumption
allowances, by retained earnings and by the amount of borrowed capital which
such funds can support. To the extent that changes in tax law have a
direct impact on the level of such earnings, they have an equally significant
indirect impact on future levels of new investments, employment and total
federal revenues. Thus, the overall economic impact of any proposed tax
legislation will be much greater than can be indicated by an estimate of
initial revenue gain or loss.

The project (TIP) used a survey of NAM members to measure the initial impact
which specific tax proposals would have on tax liability. Coupled with the
specific assumptions that changes in tax liability result in equal but
opposite dollar changes in cash flow and that percentage changes in cash
flow generate identical percentage changes in investments,these initial changes
were applied to the overall economy through the Data Resources, Inc., (DRI) Long-
Term Model of the U. S. Economy to determine how they would affect real fixed
investment, employment, GNP and federal tax receipts over a period of years.



For purposes of illustration, these percentages have been applied to 1977-1981
estimates ofeconomic activity to produce dollar and job figures. Assuminq
enactment of any of these proposals in mid 1975, this allows an eighteen-
month interim as the period during which the impact of the change would be
fully realized throughout the economy. (This does not assume that there will
be no effects prior to 1977.)

NOTE: The percentages and the dollar amounts of changes in real fixed
investment and real GNP are presented in terms of constant 1958 dollars whereas
the percentages and dollar amounts with respect to federal tax receipts are
net in terms of current dollars. The tables on pp. 1-9 are structured with
the percentage change in each economic factor presented in the top row (%) and
the dollar and job change in the bottom row (1958 $ billions, thousands of
jobs, current $ billions).




The Tax Impact Project (TIP) has estimated the overall economic impact which
would be generated by each of seventeen specific tax proposals affecting
business income. The findings are presented below in three groups of tables
-- Major Proposals Affecting Domestic Source Income, Major Proposals Affecting
Foreign Source Income and Other Proposals. Explanations of the specific
proposals are included in APPENDIX A. For a brief description of what the
figures in the tables represent, see the INTRODUCTION on page vii.
Major Proposals Affecting Domestic Source Income

Of the seventeen proposals studied by TIP, the findings suggest that five
which affect primarily domestic source income would have major impact on the
domestic economy. Two of these would have long-term beneficial effects while
three others would have adverse consequences.

The two beneficial proposals are enactment of a permanent 10% investment tax
credit and of a 40% ADR. The TIP findings indicate that they would stimulate
capital investment, thereby generating new employment opportunities throughout
the economy. The resulting increase in business and personal taxable incomes
would more than offset the initial reductions in tax liabilities.

The proposals with adverse consequences include repeal of the investment tax
credit, repeal of ADR and an increase in the corporate tax rate. The TIP
findings indicate that the long-term effects of each proposal would be to
reduce the level of capital investments, thereby lowering the levels of
employment which will otherwise develop. The resulting decrease in economic
activity would lower taxable business and individual incomes, thereby more
than offsetting estimates of initial revenue gains.

Table 1 -- 10% Investment Tax Credit

YR 1 YR 2 YR 3 YR 4 YR 5 AVG %

Real fixed investment (%)
(1958 $ billions)

Manuf. employment (%
(thousands of jobs)

Total employment
(thousands of


Real GNP (%)
(1958 $ billions)

Federal tax receipts (%)
(current $ billions)

+3.06 +3.89 +3.85
+3.44 +4.77 +5.04

+ .90 +1.00 + .92
+ 180 + 210 + 190

+ .10 + .24 + .28
+ 80 + 200 + 250

+ .41 + .51 + .55
+3.82 +4.99 +5.63

- .46
-l .83

- .37 .30
-1.61 -1.42

+3.88 +4.05
+5.36 +5.87

+ .98 +1.01
+ 210 + 220

+ .33 + .37
+ 300 + 340

+ .62 + .67
+6.59 +7.38

- .14
- .72


+ .96

+ .27

+ .56

+ .05 .24
+ .28






-2 -

Table 2 40% ADR

YR 1 YR 2 YR 3 YR 4 YR 5 AVG %

Real fixed investment (%)
(1958 $ billions)

Manuf. employment (%)
(thousands of jobs)

Total employment (%o
(thousands of jobs

Real GNP (%)
(1958 $ billions)

Federal tax receipts (%)
(current $ billions)


+ .69
+ 140

+ .09
+ 70

+ .41

- .35

+2.99 +2.88
+3.67 +3.77

+ .76 + .73
+ 160 + 150

+ .19 + .20
+ 160 + 180

+ .41 + .43
+4.01 +4.40

- .28 .23
-1.22 -1.09

+2.90 +3.06
+4.00 +4.44

+ .76 + .78
+ 160 + 170

+ .24 + .28
+ 220 + 260

+ .49 + .54
+5.21 +5.95

- .11 + .03
- .56 + .17


+ .74

+ .20

+ .45

- .19

Table 3 -- Repeal of the Investment Tax Credit

NOTE: This table assumes the existence of a 7% investment tax credit (4% for
utilities). Similar results could be expected to occur if the credit (now 10%
under P.L. 94-12) is repealed during the next several months. However, the
magnitude of the impact could be expected to increase substantially if repeal
is enacted when the new 10% rate is exercising its full effect.

YR l YR 2 YR 3 YR 4 YR 5 AVG %

Real fixed investment (%)
(1958 $ billions)

Manuf. employment (%)
(thousands of jobs)

Total employment (%)
(thousands of jobs)

Real GNP (%)
(1958 $ billions)

Federal tax receipts (%)
(current $ billions)


- 250

- .15
- 120

- .58

+ .62

-5.31 -5.25 -5.30 -5.54 -5.11
-6.52 -6.88 -7.32 -8.03

-1.32 -1.25 -1.37 -1.45 -1.33
- 270 260 290 310

- .34 .38 .44 .51 .36
- 290 330 390 470

- .70 .74 .85 .95 .81
-6.85 -7.58 -9.04 -10.46

+ .52 + .43 + .22 .03 + .35
+2.27 +2.04 +1.13 .17




- 4.09




+ 7.73



Table 4 -- Repeal of ADR

YR 1 YR 2 YR 3 YR 4 YR 5 AVG %

Real fixed investment (%) -1.63
(1958 $ billions) -1.83

Manuf. employment (%) .44
(thousands of jobs) 90

Total employment (%) .06
(thousands of jobs) 50

Real GNP (%)
(1958 $ billions)

Federal tax receipts (%)
(current $ billions)

- .26

+ .23
+ .91

-1.95 -1.88 -1.92 -2.03
-2.39 -2.46 -2.65 -2.94

- .48 .45 .50 .52
- 100 90 100 110

- .12 .13 .16 .19
- 100 110 140 170

- .26 .28 .33 .37
-2.55 -2.87 -3.51 -4.07

+ .18 + .12 .01 .02
+ .78 + .57 .05 .11

Table 5 -- 50% Corporate Tax Rate

YR 1 YR 2 YR 3 YR 4 YR 5 AVG %

Real fixed investment (%)
(1958 $ billions)

Manuf. employment (%)
(thousands of jobs)

Total employment (%)
(thousands of jobs)

Real GNP (%)
(1958 $ billions)

Federal tax receipts (%)
(current $ billions)

-1.88 -2.25 -2.17 -2.21 -2.34
-2.11 -2.76 -2.84 -3.05 -3.39

- .53 .57 .54 .58 .62
- 110 120 110 120 130

- .07 .14 .15 .18 .22
- 60 120 130 190 240

- .30 .30 .32 .38 .42
-2.79 -2.94 -3.28 -4.04 -4.62

+ .26 + .23 + .19 + .10 .18
+1.03 +1.00 + .90 + .51 -1.00




+ 2.10


- .48

- .13

- .30

+ .10




+ 2.44


- .57

- .15

- .34

+ .12


- 4 -

Major Proposals Affecting Foreign Source Income

The TIP findings indicate that four of the proposals affecting foreign source income
would have significant impact on the domestic economy.

NOTE: TIP has estimated the economic impact of changes in tax liability, assuming that
the relationship between domestic investment and foreign investment will remain constant.
While long-term adjustments in the ratio of domestic to foreign investment could be
expected to follow major changes in taxation of foreign source income, it is beyond the
scope or capacity of TIP to make assumptions in this regard. Therefore, Tables 6, 7
and 8 represent the estimates of the economic impact of these proposals, assuming that
changes in levels of investment will be distributed between domestic and foreign uses
in the same ratio as presently exists.

Table 6 -- Current Taxation of CFC Earnings

YR 1 YR 2 YR 3 YR 4 YR 5 AVG %

Real fixed investment (%) 1.91
(1958 $ billions) -2.14

Manuf. employment (%) .54
(thousands of jobs) 110

Total employment (%) .07
(thousands of jobs) 60

Real GNP (%) .30
(1958 $ billions) -2.79

Federal tax receipts (%) + .27
(current $ billions) +1.07

-2.29 -2.20 -2.24
-2.81 -2.88 -3.09

- .58 .54 .60
- 120 110 130

- .14 .15 .19
- 120 130 170

- .30 .33 .39
-2.94 -3.38 -4.15

+ .23 + .19 + .10
+1.00 + .90 + .51

Table 7 -- Repeal of the Foreign Tax Credit

YR 1 YR 2 YR 3 YR 4 YR 5 AVG %

Real fixed investment (%) -3.44
(1958 $ billions) -3.86

Manuf. employment (%) .96
(thousands of jobs) 190

Total employment (%) .13
(thousands of jobs) 110

Real GNP (%) .55
(1958 $ billions) -5.12
federal tax receipts (%) + .48
(current $ billions) +1.91

-4.08 -3.93 -4.00
-5.01 -5.15 -5.52

-1.02 .96 -1.06
- 210 200 220

- .26 .27 .33
- 220 240 300

- .54 .58 .69
-5.29 -5.94 -7.34

+ .41 + .34 + .17
+1.79 +1.61 + .87

-4.24 -3.94

-1 .12 -1 .02
- 240

- .40 .28
- 370

- .76 .62

- .02 + .28
- 11




+ 6.07



- .63
- 130

- .22
- 200

- .43

- .01
- .06


- .58

- .15

- .35

+ .16



+ 3.42


Table 8 -- Current Taxation of CFC Earnings coupled
with Repeal of the Foreign Tax Credit

YR 1 YR 2 YR 3 YR 4 YR 5 AVG %

Real fixed investment (%)
(1958 $ billions)

Manuf. employment (%)
(thousands of jobs)

Total employment
(thousands of


Real GNP (%)
(1958 $ billions)

Federal tax receipts (%)
(current $ billions)

- 7.55
- 8.48

- 8.88

- 8.53 8.58 9.07 8.52
-11.17 -11.85 -13.15

- 2.10 2.29 2.06 2.22 2.32 2.20
- 420 470 430 470 490

- .29
- 240

- .59
- 500

- .62
- 540

- .72
- 650

- .86 -
- 790

- 1.20 1.24 1.24 1.47 1.61 1.35
-11.18 -12.14 -12.70 -15.63 -17.73

+ 1.03 + .89 + .70 + .35
+ 4.09 + 3.88 + 3.32 + 1.79

- .06 +
- .33

Real fixed investment (%)
(1958 $ billions)

Manuf. employment
(thousands of

Total employment


of jobs)

Real GNP (%)
(1958 $ billions)

Federal tax receipts (%)
(current $ billions)

Table 9 -- Repeal of DISC Provisions

YR 1 YR 2 YR 3 YR 4 YR 5 AVG %

.82 .98 .94 .96 1.02 .9
.92 1.20 1.23 1.33 1.48

- .23
- 50

- .03
- 20

- .25
- 50

- .06
- 50

- .24
- 50

- .06
- 50

- .26
- 50

- .08
- 70


- 6.16

- .27 -
- 60

- .10 -
- 90

- .13 .13 .14 .17 .18 -
- 1.21 1.27 1.43 1.81 1.98

.16 +
.64 +

.10 +
.44 +

.08 +
.38 +

.04 .01 +
.21 .06

- 7.7

+ 1.61






-6 -

Other Proposals

The eight remaining proposals studied by TIP were found to have less substantial eco-
nomic impact than the proposals discussed earlier, although the impact of a series of
changes in the so-called minimum tax provisions would be rather significant, if enacted

Table 10 -- Changes in the Minimum Tax
(Increase the Rate to 30")

YR 1 YR 2 YR 3 YR 4 YR 5 AVG %


Real fixed investment (%)
(1958 $ billions)

Manuf. employment
(thousands of

Total employment

jobs )

of jobs)

Real GNP (%)
(1958 $ billions)

Federal tax receipts (%)
(current $ billions)

- .39 .48 .46 .47 .50
- .44 .59 .60 .65 .73

- .11 .12 .11 .12 .13
- 20 20 20 30 30

- .01
- 10

- .03 .03 .04 .05
- 30 30 40 50

- .06 .06 .07 .08 .09
- .56 .59 .72 .85 .99

+ .06 + .04 + .04 + .02 .01
+ .24 + .17 + .19 + .10 .05

Table 11 -- Changes in the Minimum Tax
(Repeal of the Regular Income Tax Liability Deduction)

YR 1 YR 2 YR 3 YR 4 YR 5 AVG %

Real fixed investment (%)
(1958 $ billions)

Manuf. employment (%)
(thousands of jobs)

Total employment (%)
(thousands of jobs)

Real GNP (%)
(1958 $ billions)

Federal tax receipts (%)
(current $ billions)

- .43 .52 .50 .51 .54
- .48 .64 .66 .70 .78

- .12 .13 .12 .13 .14
- 20 30 30 30 30

- .01 .03 .04 .04 .05
- 10 30 40 40 50

- .07 .07 .07 .09 .10
- .65 .69 .72 .96 -1.10

+ .06
+ .24

+ .05 + .04
+ .22 + .19

+ .02 .01
+ .10 .06

- .50

- .13

- .04

- .08

+ .03

- .46

- .12

- .03

- .07

+ .03



+ .65




+ .69


7 -

Table 12 -- Changes in the Minimum Tax
(30% Rate and Repeal of the Income Tax Deduction
coupled with Repeal of the $30,000 Exemption)

YR 1 YR 2 YR 3 YR 4 YR 5 AVG %

Real fixed investment (%)
(1958 $ billions)

Manuf. employment
(thousands of

Total employment


of jobs)

Real GNP (%)
(1958 $ billions)

Federal tax receipts (%)
(current $ billions)

- 1 .4E

-1 .74

-1.68 -1.71 -1.81
-2.20 -2.36 -2.62

- .41 .44 .42 .46 .48
- 80 90 90 100 100

- .05 .11 .12 .14 .17
- 40 90 100 130 160

- .23

+ .19
+ .76

- .23 .24 .29 .32
-2.25 -2.46 -3.08 -3.52

+ .15 + .12 + .07 .02
+ .65 + .57 + .36 .11


- .44

- .12

- .26

+ .10

Table 13 -- Repeal of "Possessions Income" Treatment

YR 1 YR 2 YR 3 YR 4 YR 5 AVG %

Real fixed investment (%)
(1958 $ billions)

Manuf. employment
(thousands of

Total employment


of jobs)

Real GNP (%)
(1958 $ billions)

Federal tax receipts (%)
(current $ billions)

- .39
- .44

- .11
- 20

- .01
- 10

- .06
- .56

+ .05
+ .20

- .47 .45 .46 .49
- .58 .59 .64 .71

- .12 .11 .12 .13
- 20 20 30 30

- .03 .03 .04 .05
- 30 30 40 50

- .06 .07 .08 .09
- .59 .72 .85 .77

+ .05 + .03 + .02 .01
+ .22 + .14 + .10 .05




+ 2.23


- .45

- .12

- .03

- .07

+ .03



+ .59


8 -

Table 14 -- Repeal of "Minimum Distributions"

NOTE: Table 14 presents figures with respect to repeal of the ii" distributions"
provisions, an action taken by the Tax Reduction Act of 1975 (P. L. 94-12), effective
January 1, 1976.

YR I YR 2 YR 3 YR 4 YR 5 AVG %

Real fixed investment (%)
(1958 $ billions)

Manuf. employment
(thousands of

Total employment
(thousands of



Real GNP (%)
(1958 $ billions)

Federal tax receipts (%)
(current $ billions)

- .19
- .21

- .06
- 10

- .01
- 10

- .03
- .28


- .22 .22 .22 .24
- .27 .29 .30 .35

- .06 .06 .06 .06
- 10 10 10 10

- .01 -.01 .02 .02
- 10 10 20 20

- .03 -.03 .04 .04
- .29 -.31 .43 .44

+ .02 + .02 + .01 .01
+ .09 + .09 + .05 .06

Table 15 -- Repeal of the "Per C(
on the Foreign

country" Lim
Tax Credit

- .22

- .06

- .01

- .03

+ .02

-l .42

-l .75

+ .29


YR l YR 2 YR 3 YR 4 YR 5 AVG %


Real fixed investment (%)
(1958 $ billions)

Manuf. employment (%)
(thousands of jobs)

Total employment

( )
of jobs)

Real GNP (%)
(1958 $ billions)

Federal tax receipts (%)
(current $ billions)


- 10

- 10



- .18 .18 .18 .19
- .22 .24 .25 .28

- .05 .04 .05 .05
- 10 10 10 10

- .01 .01 .01 .02
- 10 10 10 20

- .02 .03 .03 .03
- .20 .31 .32 .33

+ .02 + .01 .01 .01
+ .09 + .05 .05 .06


- .18

- .05

- .01

- .03

+ .01



+ .11


9 -

Table 16 -- Repeal of the Western Hemisphere Trade
Corporation (WHTC) Provisions

YR 1 YR 2 YR 3 YR 4 YR 5 AVG %

Real fixed investment (%)
(1958 $ billions)

Manuf. employment (%)
(thousands of jobs)

Total employment (%)
(thousands of jobs)

Real GNP (%)
(1958 $ billions)

Federal tax receipts (%)
(current $ billions)

-.12 .14 .14 .14 .15
- .13 .17 .18 .19 .22

-.04 .04 .04 .04 .04
- 10 10 10 10 10

-.01 .01 .01 .01 .01
- 10 10 10 10 10

-.02 .02 .02 .02 .03
- .19 .20 .20 .21 .33

+ .02 + .01 + .01 + .01 .01
+ .08 + .04 + .05 + .05 .05

- .14

- .04

- .01

- .02

+ .01

Table 17 -- Repeal of the Less Developed Country Corporation
(LDCC) Provisions

YR 1 YR 2 YR 3 YR 4 YR 5 AVG %

- .89


+ .17


Real fixed investment (%)
(1958 $ billions)

Manuf. employment (%)
(thousands of jobs)

Total employment (%)
(thousands of jobs)

Real GNP (%)
(1958 $ billions)

Federal tax receipts (%)
(current $ billions)

- .08 .10 .09 .10 .10
- .09 .12 .12 .14 .15

- .02 .02 .02 .02 .02
- 10 10 10 10 10

- .01
- 10

- .01 .01 .01 .01
- 10 10 10 10

- .01 .01 .01 .02 .02
- .09 .10 .10 .21 .22

+ .01 + .01 + .01 -.01 .01
+ .04 + .04 + .05 -.05 .05


- .09

- .02

- .01

- .01

+ .01

- .62

- .72

+ .03




The Tax Impact Project (TIP) was undertaken with three general objectives in
mind. They were:

-- to begin the development of a method of estimating the overall
economic impact of business-related tax proposals in general;

to develop economic impact estimates for specific proposals
which might arise in 1975; and
-- to lay the groundwork for the possible development of a
continuing project which could assess very rapidly the
economic impact of any major tax proposal.

Considering the magnitude of the federal income tax structure, its intertwining
with the economy and the massive capital needs of the future, it is increasingly
important that the economic consequences of proposed tax legislation be studied
thoroughly. TIP was conceived as a vital step in developing a capability to
estimate in advance the effects which tax proposals would have on real capital
investment, employment opportunities, real GNP and federal tax revenues over a
period of years.

TIP is not represented to be the last word in economic analysis of tax proposals.
It is one step in the development of methods of obtaining such analyses. It is
intended to aid the illustration of the relationship between tax policy and eco-
nomic activity and how this relationship is important to business and labor, to
producers and consumers, to the private sector and the government, indeed to all
facets of the economy. In so doing, it is hoped that TIP will help to raise the
debates over federal tax policy from the level of political and emotional
harangues to a rational discussion of the economic impact of tax legislation.
In addition, it is hoped that TIP will lead to additional development and re-
finement of economic impact studies of tax proposals.

The Income Tax in Our Economy

The existing Internal Revenue Code -- all 37 chapters plus thousands of pages
of Treasury Regulations -- has evolved from a very simple and uncomplicated
ancestor. Following ratification of the Sixteenth Amendment, the federal
income tax was enacted in 1913 as what appears, on the surface, to have been
a minor afterthought in a major tariff act. Most individuals fell within the
1% rate bracket on taxable incomes of up to $20,000, with relatively few
affected by the graduation of rates up to a maximum of 6% at the $500,000
income level. Corporations were subject to a 1% tax rate on their incomes.
As a source of federal funds, the income tax provided only 5% of federal net
revenues in 1913.

During the past sixty years, the income tax system has grown considerably
in size and in importance. For fiscal year 1974, the income tax on
individuals and corporations provided $157.6 billion in federal revenues,
approximately 75% of all federal budget receipts, excluding Social Security
taxes on employers and employees. The individual rate structure now ranges
from a minimum of 14% to a maximum of 70% on unearned income, approximately
twelve times the comparable 1913 rates. The maximum rate is now 48% on
corporate income, making the federal government virtually the equivalent of
a 50% shareholder in this country's largest business enterprises.



The Relationship Between Tax Policy and Economic Activity

Thus, the federal income tax now plays a very significant role in the function-
ing of our economy. Business and consumers alike make expenditure plans based
on many factors -- fixed expenses, prices, availability of goods and services,
essentials versus luxury items, hopes and fears about the future. Yet, in the
final analysis, it is the availability of money which determines how far down
the shopping list they can go. In this day and age, that means after-tax dollars,
because to the extent that the federal income tax consumes taxpayer dollars, it
reduces the funds available for private sector activity.

This is particularly true of new capital expenditures by business. Invest-
ment in new physical plants and productive equipment or in modernization of
existing facilities has an impact far beyond merely creating new employment
opportunities within the investing companies themselves. Capital expenditures
directly create employment and incomes for construction workers who build and
modernize factories, for production workers who manufacture the construction
materials and the equipment for the new and modernized facilities, for
service workers who transport and maintain the new equipment, for administrative
personnel who handle transactions and production schedules and for many other
related workers. The effects of capital expenditures also are felt as the
businesses and individuals who are paid for their goods and services spend
their incomes. The spending and re-spending of the invested dollars generate
a higher level of economic activity than would otherwise be the case. As
business and individual incomes rise, one additional beneficiary is the
federal government which realizes increased tax revenues.

The relationship between tax policy and business investments is particularly
close. While many factors affect capital expenditure plans, the availability
of funds is of primary importance. Corporate cash flow (capital consumption
allowances and retained earnings) plays a primary role in such planning. Not
only is cash flow a source of capital itself, it also has a substantial im-
pact on the amount of borrowed capital which a business can obtain. Thus,
when changes in tax policy affect the volume of a company's cash flow, the
effect on available capital can be larger than the initial change in tax
liability itself.

The overall impact of major tax legislation is illustrated readily by the
economic history of the investment tax credit. The credit has a direct impact
on the capital expenditures of industry by increasing the internal funds avail-
able for such expenditures. Following enactment of the credit in 1962, new
orders for machinery and equipment increased steadily, along with employment
in capital goods industries and with corporate tax revenues. The 1966-1967
suspension period witnessed a leveling off or decline in these areas. From
1967 through the 1969 repeal, new orders for capital goods, employment and
corporate tax revenues rose steadily. Following the repeal, the real decline
was very significant. Reinstatement of the credit and enactment of ADR in 1971
were followed by renewed growth in these areas.

Unfortunately, general awareness of the potential economic impact of tax changes
is fleeting. While it is easy to comprehend how a tax rebate or a general reduc-
tion of individual rates will favorably affect one's personal spending and invest-
ment plans, it is more difficult to understand how this effect can be multiplied
thousands and millions of times across the country and how the resulting increase
in economic activity can benefit the country as a whole, particularly through the
business sector. And yet, the family-owned small business and the billion dollar



manufacturing corporation are affected in the same general ways by changes
in tax liability; only the magnitude of the impact is different.

The Need for More Comprehensive Information

One specific function which the project will perform is to provide a more compre-
hensive means of measuring the federal revenue impact of tax proposals. The
existing procedure for estimating revenue impacts of tax proposals is rather
firmly established. It involves estimating the change in tax liabilities based
on expected levels of income in areas affected by a proposal. As a means of
comparing the initial impact of various proposals, this can be a useful pro-
cedure. As a means of estimating what will actually happen to federal revenues,
such a procedure stops well short of a complete assessment of the impact of a
specific proposal. In considering only the initial impact of a proposal, it
assumes that no compensating actions are taken by the taxpayer.

With respect to changes in taxation of business income, TIP considers the
secondary or "feedback" effects of tax proposals. As cash flow is reduced,
business investments will be altered, employment levels will be affected,
dividends may be changed and price structures may be subject to review.
Multiplying these changes by the thousands of companies and the millions of
individuals affected indicates the magnitude of the "feedback" effects which
tax proposals can generate. Thus, TIP builds on the initial impact figures
in estimating the long-term net changes in federal tax receipts presented in
the tables.

Selection of the Econometric Approach

Studying the feedback effects of tax proposals is a complex task. To determine
the overall changes in investment, jobs, GNP and federal revenues, the project
required the use of a well developed econometric computer model to take into
account the hundreds of equations which simulate actual relationships within
the economy.

An established and well recognized econometric model was chosen for the purpose
of generating the type of information sought by the project. A survey was
constructed to collect the data to be used as input into the model. None of
the assumptions or structural relationships within the model were altered.

With the Congress expected to consider a number of major tax proposals in 1975,
the study covered by this report was undertaken both to test the methodology and
to generate information with respect to a number of perennial tax proposals,
including changes in the investment tax credit, ADR, corporate tax rates and
foreign source income treatment. Thus, the first TIP results are expected
to be of practical usefulness, not just of academic interest.

A possible long-term application of TIP is the development of a capability to
analyze any major tax proposal without time consuming surveys. The first study
has been structured to allow such development, should that be judged desirable.




The Survey

In order to utilize the econometric model, it was necessary to gather data
regarding the initial impact of the tax proposals on the tax liabilities and
capital investments of industrial taxpayers. This was accomplished through
a survey of NAM member companies.

The survey form asked that a responding company indicate the dollar amount
by which its tax liability for its most recent taxable year would have been
increased or decreased if each of seventeen specific tax proposals had been
in effect during that year. In addition, the firm was asked to provide in-
formation about its retained earnings for the year.

All of these figures were included in calculations to determine the percent
by which government tax receipts and total investment in fixed assets would
be changed by each particular tax proposal. The percent changes were
then used as input for the model in order to calculate the domestic economic
effects of the proposals.

The survey was mailed to 1050 of the largest NAM member companies in November
1974. The list of recipients was compiled by selecting the fifty largest
member firms (by sales volume) in each of the manufacturing Standard Industrial
Classification (SIC) Codes from 20 through 39, plus utility SIC Code 49. (See
APPENDIX B for list of industries by SIC Codes.) The cover letter explained
the purpose of the survey and asked for cooperation with the understanding
that the responses would be collected and compiled in complete confidentiality.
The only figures to be released would be the econometric results.

From the 1050 largest companies, 313 responses were received and used in
compiling the percentage changes in tax receipts and investments used as
inputs for the model. Over sixty percent of the responses were based on
calendar 1973. Approximately twenty percent were for fiscal 1974. At the
time of the survey, this was the most recently available information.

The responding companies represent all major industries in the U.S., and they
represent substantial portions of all sales and investments by U.S. industrial
companies. Responses to the survey came from companies in the various
manufacturing industries and in the electric and gas utility industries. The
responses represent approximately 35% of the companies on the Fortune 500
Largest Industrial Companies list. Total sales of the responding manufacturers
represented 36% of total sales of all U.S. manufacturers. Responding Fortune
500 members accounted for approximately 95% of the total sales volume of
responding companies. All Fortune 500 sales represent approximately 80% of
all manufacturing sales. The responding manufacturers accounted for
approximately 35% of all new investment in domestic plant and equipment.

For a detailed discussion of the survey and preparation of the model input,


14 -

The Econometric Model

Workings of the model. An econometric model of the economy is a series of
functional relationships tying the various sectors of the economy together
into a unified system. A model is designed to measure mathematically and
statistically these relationships among numerous economic variables. Such
models are useful in analyzing specific elements of economic activity, as
well as for tracing the complex feedback and interrelationships within the
total economy.

Basically, a model consists of a number of simultaneous equations, each of
which describes a certain functional relationship within the economic system.
The number of equations in a model will vary depending upon the scope of the
model. TIP used the Data Resources, Inc., (DRI) Long-Term Model of the U. S.
Economy, which consists of over 900 equations which identify and measure the
interrelationship among all major sectors of the economy.

The following diagram (CHART 1) is a simplified version of how an econometric
model ties the economy into a self-contained whole and feeds data from one
sector into another. This diagram is highly simplified and is designed to
highlight the sectoral relationships important to the project. Thus, the
other elements of the economy that are affected by the variables in the
diagram are not represented.


72-251 0 76 6


15 -

Each box represents a major element of the economy. The lines connecting the
boxes indicate how elements from one sector are utilized to determine the
other elements. The circular nature of the diagram reflects "flow" of economic
activity and the simultaneous nature of the system. Thus, the model captures
the "circular" nature of economic activity.

Gross national product (GNP) is the measure of total output of goods and
services in the economy. Government tax policy, in addition to being a
source of revenue, influences economic activity (GNP) by either stimulating
or restricting economic growth. Thus, in this simplified diagram, tax policy
is seen as influencing investment directly, as well as indirectly through
corporate profits. At the same time, the level of GNP affects government in
terms of tax receipts, as shown by the connecting boxes. Thus, government tax
policy can either stimulate or deter investment spending on new equipment.

Other factors affecting investment spending shown by the diagram are the level
of consumer expenditures and the level of corporate profits, which in turn is
affected by government tax policy. Consumer expenditures are a factor in
determining whether additional investment in equipment is necessary to satisfy
demand. In turn, the level of expenditures by consumers is affected by the
gain (or loss) in personal income resulting from changes in output and
employment. Also, corporate profits and government programs are determinants
of the gain or loss in personal income, which will then affect the level of
spending that dictates the amount of additional investment necessary to meet
demand, and so on. The variables in the diagram illustrate this cause and
effect feedback of the economic system.

Many other variables, of course, play a part in determining each of the elements
illustrated by the diagram. The purpose of this particular diagram is simply
to delineate the crucial connections among tax policy, investment, total output,
and government tax receipts.

Once built, a macroeconomic model is able to estimate the impact on hundreds of
economic relationships resulting from changes in the parameters of the economic
system. The impact of specific changes, such as alterations in tax policy and
investment decisions, can be analyzed under varying sets of assumptions. Such
models not only allow for the complex feedback of large numbers of economic
forces, they also make feasible the analysis of extremely large amounts of data.
Therefore, in addition to theoretical considerations, it was useful to adopt
an econometric approach for TIP because of the exceptionally large body of data
which the project incorporates.

Inputting the survey results. In order to obtain general macroeconomic results
from the initial effect of a tax proposal as determined by the survey, a
long-term macroeconomic model was chosen. If a model of the current economy
had been used, the results would have been distorted by the existing recession.
As a result, the figures would not provide a reasonable statement of the
economic impact of the proposals over a long-term period. Further, since the
majority of the survey responses were based upon calendar year 1973, it would
have been inappropriate to use the results in a model of today's economy.
Therefore, the survey results were used as input into the long-term model which



assumes that the economy is at or near its long-term growth path. If the
tax changes were adopted in a recession, the effects would be somewhat altered.

While 1973 was not a normal year in many respects, industrial utilization,
economic growth, and the level of unemployment were close to generally
considered long-term full employment growth levels and consistent with the
assumptions of the long-term model that was used. Inflation increased
dramatically throughout 1973 and was at rates quite above the assumptions of
the model. However, since the results of the survey were interpreted in real
terms, much of this bias was eliminated.

The survey data on each change in tax liability were compiled by SIC code.
It was assumed that such changes in tax liability result in equal dollar
changes in corporate cash flow. Also, a constant ratio of total investment
to cash flow was assumed for determining the initial impact of a change in
cash flow on investment. Once the feedback mechanism of the interrelation-
ships within the economy is felt, however, the process becomes much more
complex. While the initial impact on investment is determined by the change
in cash flow, the subsequent impact is determined by changes in demand, the
movement of interest rates, the cost of capital, the change in dividend pay-
ments and other factors. (See APPENDIX C, pp. 31-32 for a fuller discussion.)

Once the change in investment was determined in each SIC code, these changes
were weighted to represent the relative importance of investment in that SIC
code to total investment in the economy.Then the initial changes in tax
liabilities and investment in each industry flowed into the macroeconomic
model (see CHART 2) where the feedback effects began to work. The changes
ripple throughout various sectors of the economy (see CHART 1 on p. 14) and
the macroeconomic impact is determined.








NOTE: It was assumed that the existing ratio between domestic and foreign
investment will remain the same after any tax Thange. The findings represent
only the changes which would occur in the domestic economy based on the exist-
ing relationship. While long-term adfustm'ents to foreign investments could be
expected to follow significant changes in tax treatment of foreign source income,
it is beyond the scope or capacity of the project to make assumptions in this

The results. The table on page 18 illustrates the format in which all of the
TIP findings are presented in this report in pp. 1-9. The results are in terms
of fixed investment, manufacturing employment, total employment, GNP and federal
tax receipts for the simulation period. These have been selected as the economic
factors which best illustrate the overall impact of each tax proposal. It
should be noted that changes in GNP and fixed investment are based on cons-tant
(1958) dollars while federal government tax receipts are based on current dollars.
The reason for this difference is to show GNP and fixed investment without dis-
tortion due to inflation while federal government tax receipts are depicted in
actual dollars received. Thus, the numbers cannot be analyzed in terms of each
other without first "deflating" government tax receipts.

The tables present the economy-wide effects of each tax proposal, both on a
percentage change basis (the rows of figures designated (%)) and on a dollar
and jobs basis (the rows of figures designated ($) and (jobs)). The percentage
change reflects the change in the total economy as a result of the tax proposal
as compared to economic conditions in the absence of any tax change. Note that
these are differences from what otherwise would occur. The percentages are not
intended to represent absolute changes from conditions in 1975.

The percentage effect of each of the tax proposals on the total economy is
shown on an annual basis over a five-year period. It is assumed that the
tax change remains in effect during the entire five-year period of the study.
It is also assumed that the proposal has been in place for a period of approxi-
mately 18 months so that its full impact is realized. To translate the percentage
changes into real figures, the percentages were applied to the long-term growth
model of the U.S. economy. The differences between the basic model (assuming
no changes due to tax policy) and the new simulations (based on the impact of
the tax proposals) were calculated.

It should be noted that the multiple impact of all of the various feedbacks from
the interrelationships within the economic system produce different results
depending upon the time framework. For example, manufacturing employment is
generally impacted more than total employment during the first year of full
impact. This, of course, is what one would expect as employees are initially
pulled into manufacturing from other sectors when the effect is positive or
find jobs in other sectors when the effect is negative. After the "first
round," however, the impact on investment is felt in other sectors of the
economy as well, and output and employment react in these areas. Thus, the later
effects on total employment are greater than in manufacturing alone.

For purposes of illustration the five-year period of 1977-1981 was selected to
illustrate the effects of the seventeen TIP proposals. This assumes that these
proposals were adopted in mid 1975 and that an eighteen month interim period
will allow the full effect of the change to be realized. This assumption was
made for illustrative purposes only. It is recognized that the appropriate



periods for any given proposals can vary widely. It should be noted that
TIP does not assume that there will be no impact in 1975 or 1976, merely
that the full effect is assumed to be reached beginning in 1977.

It should also be noted that the TIP findings were based on tax law prior to
P.L. 94-12. Therefore, the findings have been calculated by a model which
did not take into account a 10% investment tax credit, except with respect
to that specific proposal.

Table I -- 10% Investment Tax Credit

YR 3 YR 4 YR 5 AVG %

Real fixed investment (%)
(1958 $ billions)

Manuf. employment (%)
(thousands of jobs)

Total employment (%)
(thousands of jobs)

Real GNP (%)
(1958 $ billions)

Federal tax receipts (%)
(current $ billions)

+3.06 +3.89 +3.85 +3.88 +4.05
+3.44 +4.77 +5.04 +5.36 +5.87

+ .90 +1.00 + .92 + .98 +1.01
+ 180 + 210 + 190 + 210 + 220

+ .10 + .24 + .28 + .33 + .37
+ 80 + 200 + 250 + 300 4 340

+ .41 + .51
+3.82 +4.99

- .46 .37
-1.83 -1.61

+ .55 + .62 + .67
+5.63 +6.59 +7.38

- .30 .14 + .05
-1.42 .72 + .28


+ .96

+ .27

+ .56

- .24

Assuming enactment of a 10% investment tax credit,
the percentage change in manufacturing employment
in the first year, due to the tax impact,would mean
+ 180,000 jobs for that year. The average yearly
change in manufacturing employment would be +.96%
which, in terms of the model simulations for 1977
to 1981, would result in a net addition of + 220,000
jobs in manufacturing employment after five years.

YR 1

YR 2




- 5.30



19 -


The Tax Impact Project Report discusses the economic impact of 17 specific
tax proposals. These proposals are described below in the order in which
they are presented in the report.

Major Proposals Affecting Domestic Source Income

10% Investment Tax Credit (p.1)

The investment tax credit for qualified section 38 property has been raised to
10% across the board during 1975-1976 for all taxpayers, including utilities,
by P.L. 94-12, the Tax Reduction Act of 1975. At the time of the TIP survey
in 1974, the investment tax credit rate was 7% generally, 4"' for utilities.
The TIP results represent the effects which the higher rate alone will have,
assuming that it is made permanent. This assumes no other changes in credit
rules, such as the 50% tax liability limitation, the 3-5-7 rule or any other
credit-related provisions. The 10% rate would apply to all qualified property
placed in service during the taxable year covered by the survey and to the
basis of qualified property attributable to construction, reconstruction or
erection during such taxable year.

40% ADR (p. 2)

Under existing law, the Asset Depreciation Range (ADR) allows a 20% variance
from the asset guideline period (depreciable life) established for property
within each asset guideline class. This allows the taxpayer to select a
depreciation period which is up to 20% shorter (or longer) than the guideline
period. The proposal would increase the allowable variance to 40%. No changes
in the guideline periods or in any other ADR-related provisions would occur.
The 40% variance would be applicable beginning with assets on which depreciation
began during the taxable year covered by the survey.

Repeal of the Investment Tax Credit (p. 2 )

At the time of the TIP survey in 1974, the investment tax credit rate was 7%
generally, 4% for utilities. Therefore, the proposal contemplates repeal of
a 7% credit as it existed prior to enactment of the 10% rate in P.L. 94-12,
the Tax Reduction Act of 1975. Repeal would be effective on the first day of
the taxable year covered by the survey. Thus, the TIP results assume that the
taxpayer could not have taken any investment tax credit for that year.

Repeal of ADR (p. 3)

The Asset Depreciation Range (ADR), which allows a 20% variance from the asset
guideline period (depreciable life) for each class of depreciable property,
would be repealed, effective as of the first day of the taxable year covered
by the survey. Depreciation deductions would be based on the full guideline
lives as established in Treasury Regulations for all property on which
depreciation began during that year.


20 -

50% Corporate Tax Rate (p. 3)

At the time of the TIP survey in 1974, the corporate tax rate was composed of a
22% normal tax on all corporate income and a 26% surtax on all corporate income
in excess of $25,000, creating a 48% tax rate on income above $25,000. The
proposal would increase the surtax rate to 28%, thereby creating a 50. rate.
This 50% rate would be effective for the taxable year covered by the survey.
The TIP results do not take into account certain provisions of P.L. 94-12
which altered the normal tax and the corporate surtax exemption.

Major Proposals Affecting Foreign Source Income

Current Taxation of CFC Earnings (p. 4)

Under existing law, the earnings of foreign subsidiaries of U.S. companies,
often called controlled foreign corporations or CFC's, generally are taxable
by the United States only when paid as dividends to domestic parents or other
domestic shareholders. The only exceptions are found in Subpart F (sections
951-964) which was enacted to reach so-called "tax haven" income.

Under the proposal, 100% of the annual earnings of CFC's (any foreign corporations
which are more than 50% controlled by U.S. persons) would be deemed paid as
dividends in the year earned without regard to whether they are in fact distributed.
The U.S. shareholders would be taxable on their pro rata share of such earnings.
The foreign tax credit would remain intact and would be available with respect to
such deemed-paid dividends. This proposal would be in effect for CFC earnings
during the taxable year covered by the survey, but not for previously accumulated

Repeal of the Foreign Tax Credit (p. 4)

Under existing law, U.S. persons who have foreign source income must include it
in gross income and pay U.S. income tax thereon. If that income has also been
subject to income, war profits or excess profits taxes in foreign countries, the
taxpayer may credit such taxes against the U.S. tax due on the same income,
subject to certain computation rules. (Foreign taxes may not be credited against
federal taxes due on U.S. source income.) This credit is available both for taxes
paid directly by the U.S. taxpayer and for taxes paid by various levels of foreign
subsidiaries and then deemed paid by the U.S. taxpayer.

Under the proposal, the credit would be completely repealed. Foreign taxes would
be allowed only as a business deduction in computing taxable income. This would
be effective with respect to all foreign taxes which would otherwise be creditable
during the taxable year covered by the survey. This proposal would not require
current taxation of 100% of CFC earnings.

Current Taxation of CFC Earnings coupled with Repeal of the Foreign Tax
Credit (p.5)

Under this proposal, the current taxation of CFC earnings and repeal of the
foreign tax credit, as described above, would occur simultaneously. All subsidiary
earnings would be taxable directly to U.S. shareholders and foreign taxes could
be taken only as a deduction, not as a credit. This would be effective for
CFC earnings and foreign taxes thereon during the taxable year covered by the


21 -

survey, but not for previously accumulated CFC earnings.

Repeal of DISC Provisions (p. 5)

At the time of the TIP survey in 1974, Domestic International Sales Corporation
(DISC) treatment was available to domestic corporations engaged in exporting
all types of domestic products, minerals and foodstuffs. P.L. 94-12, the Tax
Reduction Act of 1975, restricted somewhat the list of qualified export items.
A DISC is a separate, non-taxable corporation which receives 95% of its receipts
from export business. Tax on 50% of its income is deferred until distributed
while 50% is taxable to its shareholders, usually a parent company, in the year
earned. Income attributable to export receipts is treated as foreign source
income by the parent and receives separate treatment for foreign tax credit
purposes. The DISC may loan its deferred income to the parent for export-related
uses. This proposal would repeal DISC treatment effective for all income during
the taxable year covered by the survey, but not for previously tax-deferred DISC

Other Proposals

Changes in the Minimum Tax (pp. 6-7)

Under current law, a corporation is subject to an additional tax (also known as
the minimum tax) on the total of "tax preference" items which it uses. These
items include capital gains, accelerated depreciation on real property, special
amortizations and percentage depletion. The total of "tax preferences" is
reduced by a $30,000 exemption and by the amount of regular income tax liability
(minus tax credits). The remaining amount of "tax preference" income is subject
to a 10% tax.

The various proposals considered by TIP would (1) increase the tax rate to 30%,
(2) repeal the regular income tax liability deduction, and (3) enact these
simultaneously with a repeal of the $30,000 exemption. These proposals would
be effective for the taxable year covered by the survey.

Repeal of "Possessions Income" Treatment (p. 7)

Under current law, a U.S. corporation which derives 80% of its gross income
from U.S. possessions (including Puerto Rico and Guam but excluding the Virgin
Islands) and 50% of its gross income from active conduct of a trade or business
in such possessions, may exclude from gross income all income from such possessions
and from foreign sources. The proposal would repeal this treatment effective for
all possessions income and foreign source income earned or received during the
taxable year covered by the survey, but not for previously excluded income.

Repeal of "Minimum Distributions (p. 8)

At the time of the TIP survey in 1974, section 963 of the Code provided a
"minimum distributions" mechanism through which U.S. taxpayers, who otherwise
would be subject to the special Subpart F treatment of so-called "tax haven"
income, could be relieved of the administrative and accounting burdens of
Subpart F. Under this concept, taxpayers could exclude from gross income all


22 -

Subpart F income if their worldwide income was taxable at 90% of the maximum
U.S. rate, or 43%. The schedule in section 963 provided the minimum percentage
of foreign income which had to be distributed to U.S. shareholders to raise
the effective worldwide rate to 43%.

P.L. 94-12, the Tax Reduction Act of 1975, repealed "minimum distributions"
effective January 1, 1976. The TIP results are based on such a complete
repeal in the taxable year covered by the survey.

Repeal of the "Per Country" Limitation on the Foreign Tax Credit (p. 8)

Prior to P.L. 94-12, the Tax Reduction Act of 1974, there were two methods of
computing the maximum foreign tax credit--the "per country" limitation and the
"overall" limitation. Under the "per country" limitation, the foreign tax
credit is computed with respect to the taxes paid on income from each foreign
country. The maximum credit which can be taken against U.S. taxes on Country X
source income is computed by multiplying tentative U.S. tax liability times
the ratio of Country X source taxable income to worldwide taxable income. This
is repeated for income from each foreign country. Under the overall limitation,
the maximum credit is computed by multiplying tentative U.S. tax liability times
the ratio of all foreign source taxable income to worldwide taxable income.

P.L. 94-12 repealed the "per country" limitation with respect to foreign
oil-related income. The TIP proposal would repeal the "per country" limitation
altogether for all foreign source income during the taxable year covered by
the survey.

Repeal of Western Hemisphere Trade Corporation (WHTC) Provisions (p. 9)

Under current law, a U.S. corporation, which (1) does all of its business in
the Western Hemisphere, (2) receives 95% or more of its gross income from
non-U.S. sources, and (3) receives 90% or more of its gross income from the
active conduct of a trade or business, receives a special deduction from
taxable income as otherwise computed. The effect is to reduce the maximum 48%
corporate rate by 14 percentage points, down to 34%. This proposal would repeal
WHTC treatment effective for all income during the taxable year covered by the
survey, but not for WHTC income which was previously taxed at a lower rate.

Repeal of Less Developed Country Corporation (LDCC) Provisions (p. 9)

At the time of the TIP survey in 1974, income of less developed country
corporations (LDCC's) was subject to less U.S. taxation than other foreign
source income. There were LDCC exceptions to Subpart F treatment, to foreign
dividend gross-ups and to taxation of gain on the sale or exchange of stock
in a foreign corporation.

P.L. 94-12, the Tax Reduction Act of 1975, repealed the exception to Subpart F
treatment for LDCC dividends which are reinvested in LDCC's, beginning in 1976.
The TIP proposal would repeal all of the LDCC exceptions listed above. This
would apply to all LDCC income, dividends and gain during the taxable year
covered by the survey.




The TIP survey recipients included NAM member companies in the manufacturing
industries. The following industry groups were used:

SIC Industry

20 -- food and kindred products
21 -- tobacco products
22 -- textile products
23 -- apparel and other fabric
24 -- lumber and wood products
(except furniture)
25 furniture and fixtures
26 paper and allied products
27 -- printing, publishing and
allied industries
28 chemicals and allied products
29 petroleum refining and
related industries
30 rubber and miscellaneous
plastic products
31 leather and leather products
32 -- stone, clay, glass and
concrete products
33 -- primary metals
34 fabricated metal products
(except ordnance, machinery
and transportation equipment)
35 non-electrical machinery
36 electrical machinery
37 transportation equipment
38 instruments, photographic goods,
watches, and clocks
39 -- miscellaneous manufacturing
49 -- electric, gas and sanitary services


24 -


The economic effects of changes in federal corporate taxes have been
studied and debated at length by legislators and the public at large,
as well as by professional economists. At issue is the response of
investibnent to changes in corporate taxes. The professional economic
literature is robust with many studies of the investment function,
going back to classical studies by Jan Timbergen in the 1930's and to
Keynes' criticism of monetary policy as having little effect on the
level of investment in the General Theory of Employment, Interest, and
Money. The broad outline of the investment function is now gener-
ally agreed upon; the details and importance of various factors are

The problem of estimating the economy-wide effects of corporate tax
changes must be viewed from two major perspectives: (1) How do
changes in corporate taxes affect corporate cash flow and the user
cost of capital? (2) Given the marginal changes determined in (1),
that is, the partial equilibrium effects, how will changes in invest-
ment and federal tax revenues affect the working of the economy and
in turn feed back into subsequent effects on investment? The initial
effect can be termed the direct impact on corporate investment spend-
ing, while the second element can be termed the feedback effect of
tax changes.

The discussion which follows covers the complete methodology of the
Tax Impact Project (TIP). Included is a description of the TIP
survey form and the responses to it which were received. Also dis-
cussed is the microeconomic effect which proposed changes would have
on corporations' propensity to invest and to pay taxes along with the
assumptions inherent in the analysis. The final section describes
the macroeconomic process which estimated the magnitude of the secondary
or "feedback" effects based on the changed propensity to invest and to
pay taxes.


25 -

The Survey of NAM Members

Survey Questions. A survey of industrial companies was necessary to obtain
data on the dollar impact of various tax proposals and how they would affect
domestic capital investments. The survey form was constructed after the
econometric approach was selected and was tailored to provide the type of
information necessary to prepare the input for the model. All answers were
to be based on the most recently completed taxable year.

The form requested certain company profile information regarding gross sales,
number of employees and book value of gross fixed assets. However, this
information was not used in the econometric model input. Other company
profile questions requested information about the dollar amount of capital
invested during the year in fixed assets in the U.S. and about the company's
retained earnings for the year.

Each company was asked to state the two digit Standard Industrial Classification
(SIC) code number which identifies its general industrial business. The SIC
code numbers were used to group survey responses by industry for use in
preparing the final survey results as model input.

The form also asked for the initial dollar impact which each of a number of
proposals would have had on the federal income taxes of the responding
company for its most recently completed taxable year. The company was asked
to indicate the year for which it was responding.

A separate cover sheet for the survey provided space for identifying the
responding company and the person under whose direction the survey response
was prepared. This sheet was used for two purposes: (1) to identify companies
so that additional solicitations would not result in duplicate responses,
and (2) to provide ready access to a person within each company who could
answer any questions about the response.

Survey Distribution and Response. To obtain the responses which would provide
the most worthwhile and reliable data for use in preparing model input, the
survey was mailed to a selection of NAM member companies in a wide diversity
of industries and which are responsible for a significant portion of domestic
capital investment in fixed assets.

The fifty largest NAM member companies (by sales volume) in each of twenty
manufacturing SIC codes 20 through 39, plus utility company SIC code 49, were
included in the list. SIC code 21 contained only 20 companies. An additional
30 manufacturing companies, which were overlooked in the original selection,
were sent survey forms at a later date. This list of 1050 large companies
was supplemented by 500 small NAM members. The selection was made at random
by computer from all NAM companies which employ fewer than 500 persons.

The survey form was mailed to the list of 1550 companies in November 1974.
It was sent under cover of a letter which-described the purpose of the survey
and requested a prompt response of a completed form with the understanding
that the information provided would be confidential and that no individual
company data would be released.


26 -

A total of 360 responses to the survey were received prior to March 1, 1975.
Of this number, 344 were from the 1050 largest members and 16 were from
the 500 smaller members.

The survey responses were reviewed individually for omitted answers and any
other answers which seemed to be incorrect. Responses which were questioned
during this process were discussed with the person responsible for the survey.
The answers were confirmed or altered as appropriate.

Compilation of the Results. The answers on each response were recorded on
the appropriate SIC code list and on a master list. The cover letter with
identifying company and individual names were detached and retained. The
completed survey forms were destroyed.

A total of 313 responses were used in compiling the results. Because the
overall response by the small companies was very limited, none of their
individual responses were used. Also excluded were responses from larger
firms which needed verification but which did not provide the name of the
person responsible for completing the form. Results were compiled for each
SIC code and for the total response.

The Microeconomic Effects

The determination of the initial effects of tax changes on cash flow and the
user cost of capital can be approached both theoretically and by use of a
survey. This first staqe of analysis is not amenable to econometric analysis
as historic time series data on investment contain the very feedback or
macroeconomic effects which are at issue. Also, there have not been suffi-
cient observations to determine the effects of new tax changes empirically.

Many theoretical articles on the effect of taxes on investment have been
published of late. While these all permit some degree of qualitative and
quantitative conclusions, they exhibit certain deficiencies for the purposes
of the TIP analysis.1 First, theoretical derivations generally give only
qualitative conclusions. For example, a model might be constructed which
demonstrates that a lowering of taxes will cause an increase in investment.
The crucial question for policy purposes, however, is by how much federal tax
revenues will change and by what magnitude investment, employment, and output
will change. Purely theoretical constructs do indicate the direction and
impact of these changes, but they are less effective in measuring the magni-
tude of the changes.

1Theoretical models of investment by the firm include references 20, 25, 30,
8, 16 cited in the selected bibliography, pp. 36-37.


27 -

The impact of a policy change on tax payments is by no means obvious. It
is a complex question that depends upon the current structure of each
corporation affected and can only be accurately estimated by someone
familiar with the details of both the firm and the tax change. Thus, to
obtain answers as to the effect of tax policy changes on corporate tax
payments, the TIP survey asks a purely accounting question: Given the
conditions of the latest fiscal year, what would be the dollar effect of
different tax changes on corporate tax payments?2 These survey results were
then classified by two-digit SIC code.

With the change in tax liabilities determined by the survey, the next question
is whether these funds will be retained in whole by the corporation or
retained only in part with dividend payments increased. The approach adopted
by TIP is that dividend payments are assumed to be unchanged, initially, te., they
are a part of the "other things held constant." Several studies indicate
that while dividends have risen over time, there is no immediate correlation
between changes in after-tax corporate profits and changes in dividends.3
This can be shown empirically by the following regression equation:

DDIV = .279 + .028*DZA
(6.25) (2.04)

R = 0.04
DW = 1.65
SE = .389
FIT: 1955:1 TO 1974:4




2Many other surveys have attempted to determine the effect of tax policy
change on investment. Among the more notable are the McGraw-Hill surveys
that are analyzed in reference 12. A major shortcoming of these surveys
(in addition to their small sampTe size) is that they require an opinion
as to how tax changes will affect corporate investment. However, many times
decisions concerning investment by large corporations are independent of
knowledge concerning the effect of tax policy changes on after-tax profits.
Thus, there is a very poor observed relation between these type surveys and
other empirical evidence concerning changes in investment.
3The classic article on this subject is the paper by Modigliani and Miller,
reference 30, which proves that in a perfect capital market optimal investment
decisions are independent of how the investment is financed. Dhrymes and Kurz,
reference 8, present a model where capital market imperfections make internal
funds a cheaper source of financing for the firm. A recent study by Fama,
reference 14, finds that the hypothesis of a complete independence between
dividend p-oTicy and investment decisions of the individual firms cannot be
rejected. Also, see references 4 and 29.



Given these results and on the basis of other studies (see Footnote 3), it
is assumed that changes in tax liabilities will not immediately affect dividends.
Once the initial impact is fed into the model, however, dividends are increased
(or decreased) as firms respond to the altered levels of profits and cash flow.

The effect of changes in cash flow on investment can be viewed as a partial
equilibrium or microeconomic effect. While many other factors affect the level
of investment such as interest rates and the aggregate level of economic activity,
the initial effect of such changes can be considered a changed propensity to invest.
TIP assumes that if a particular tax policy were to alter tax liabilities by X
dollars, then cash flow would also change by X dollars. Comparing this change
in cash flow to total cash flow gives the percentage change in cash flow, which
is assumed to result in an equal change in capital investments. This percentage
change was computed from the survey data for each SIC code and represents the
initial impact of the proposal on that industry, i.e.,the changed propensity to
invest, if all other factors remain unchanged. This initial impact was used
to trigger the model, which then simulated other changes in the economy which
would follow the changes in taxes and investment.

The assumption that there is a constant relation between total investment and
cash flow is based upon the hypothesis that a firm has an approximately constant
leveraging ability in that an increase (decrease) in internally generated funds
will allow for an expansion (contraction) in externally borrowed funds, whether
this is to be used as replacement investment or expansion investment. Empirically
this has been the case. The ratio of total investment to cash flow for the U.S.
economy exhibits a remarkably stable pattern over the past 20 years. This is
shown in Table 1.

Table 1

Year Ratio Year Ratio

1955 -- 1.1 1965 1.1
56 1.3 66 1.2
57 -- 1.3 67 --.- 1.2
58 1.3 68 1.2
59 1.1 69 1.4
60 1.3 70 -- 1.4
61 1.2 71 1.3
62 1.1 72 -- 1.2
63 1.1 73 1.2
64 1.1 74 1.2

*Cash Flow = corporate retained earnings plus corporate capital consumption allowances.


29 -

The Feedback Effects: Use of the flacroeconomic Model

NOTE: Most of the data used in constructing the relationships discussed
here were prepared by the U. S. Department of Commerce. For specific
sources, see pp. 34-35.

Aggregate investment functions have been widely discussed in the literature.
(See, for example, reference 26 for a recent survey article; also see selected
references, on pp. 36-37.) Since the Data Resources, Inc., (DRI) long-term
niacroeconoiic model deals with an aggregate investment function for the
private economy, it was necessary to transform the two-digit industry results
into economy-wide effects on investment.

To do this, it was assumed that the TIP sample of manufacturing firms and
utilities were representative of the economy in terms of the effect of tax
policy changes on changes in fixed nonresidential investment (i.e., producer's
durable equipment plus nonresidential structures). In assessing the
reasonableness of this assumption, it is informative to examine the historical
relation between investment in manufacturing and utilities--the sectors covered
by the survey--and investment in other areas.

That is, IFIXER = IM&U + IOT


IFIXER = Fixed private nonresidential investment

IM&U = IPE&M + IP&E49

IPE&M = Investment in manufacturing

IP&E49 = Investment in utilities

IOT = Investment in "other" sectors

Table 2 below presents the historical relationship among these variables
annually from 1953 to 1974. IR represents the ratio of IOT to IM&U. The
relationship remains quite constant over time, thereby implying that
factors impacting investment in manufacturing and utilities have a similar
impact on other sectors. (Of course, the timing of the impact can be expected
to be different; in particular, manufacturing investment can be seen to be
more cyclically sensitive than "other" investment.)


30 -

Table 2








Quarterly, from 1955 to 1974, the mean of IR is
deviation of 0.134375, further illustrating the

equal to 1.35866 with a standard
relative stability of this

Another method of examining the relationship between "other" investment and
manufacturing and utility investment is to regress the former on the latter,
i.e., IOT = f(IM&U). This resulted in the following equation: 4

IOT = 2.6638 + 1.25729*IM&U
(1.9043) (.053945)

DW = 1.1171

SE = 3.4691

4Quarterly, similar regression results are obtained, although the different
timing of the changes in investment is apparent.

IOT = 1.56787 + 1.28036*IM&U
(0.903755) (.0265735)

DW = 0.1938

SE = 3.62815





, = .9661

= .9639

72-251 0 76 7


31 -

Thus, abstracting from cyclical effects of timing, the relationship between
investment in manufacturing and utilities and investment in the rest of the
economy is quite stable. Furthermore, the above regressions imply that a
change in IM&U will result in an approximately equal percentage change in lOT.

The effects on investment in percentage terms were weighted by the relative
level of investment in 1973 for each of the two-digit SIC manufacturing
industries and utilities (SIC 49, also included in the survey). This resulted
in a weighted-average effect on the propensity to invest which was then intro-
duced into the econometric model.

A number of equations were used by the model to analyze the impact of the
various tax proposals on the total economy. The fixed private nonresidential
investment (IFIXER) equation is the sum of investment in producer's durable
equipment (IPDE) plus construction excluding residential (ICER), and represents
the basic investment level altered by the survey results.


In order to illustrate the number of variables in the model which impact the
final level of investment, the major elements impacting investment are sum-
marized below. It should be stressed that it is these variables--along with
several others which impact the ones listed--which determine the final "feedback"
effects of increased or decreased taxes.



ICER = Investment in private nonresidential structures
PICER = Implicit price deflator-private nonresidential structures
IPDE = Investment in producer's durable equipment
ICR = Investment in residential structures
DODPCAUS = DOD military prime contract awards -total



IPDE58 = Investment in producer's durable equipment -1958 dollars
PIPDE = Implicit price deflator-producer's durable equipment



IPDE58 = Investment in producer's durable equipment 1958 dollars
KGPDE58 = Capital stock of producer's durable equipment 1958 dollars
DODPCAUS = DOD military prime contract awards total
Gr'P58 = Gross national product 1958 dollars
PG&'P = Implicit price deflator gross national product
IPDECOST = Cost of capital variable
ZA = Corporate profit after tax excluding IVA
CCACORP = Corporate capital consumption allowances
DIV = Dividends
SF58 = Final sales, total 1958 dollars


32 -



PIPDE = Implicit price deflator producer's durable equipment
RMMOCNEWNS = Average yield on new issues of high-grade corporate bonds
RTCGFS = Statutory corporate tax rate
DPNDIS = Discounted value of depreciation allowances
RITC = Effective rate of the investment tax credit

The weighted average effect on the propensity to invest was incorporated into
the fixed nonresidential investment (IFIXER) equation as a multiplier. In
other words, the investment equation, which is based upon the user cost of
capital and aggregate demand, was multiplied by one plus the fraction that
investment would change based on the survey data as subsequently weighted.
The percentage change in corporate tax payments was averaged and also included
in the long-term miacroeconometric model as a multiplier on corporate tax pay-
ments. The model was then solved over a five-year period for each tax proposal.

Assumptions of the DRI Long-Term Model

The assumptions of the DRI Long-Term Model of the U. S. Economy basically are
such that the economy operates at near full employment after recovering from
the initial business cycle.5 Since the model used by TIP was developed in 1974,
the "control" solution returns to near full employment by the year 1975. Thus,
the results of the survey give the macroeconomic effects that would occur if
the economy were operating at a much more normal level than the current economy.
If the survey results were incorporated into the model of today's economy, the
effects would, in many cases, be greater because of the correspondingly greater
degree of idle capacity at present. However, again, the purpose of the analysis
is to develop long-term trend estimates.

The general long-term propositions are:

1. The investment/GNP ratio will be high.

The model assumes that over the next several years, the economy will be
characterized by a major catch-up element for investment because of:

A. Inadequate outlays in the latter 1960s when the dollar was overvalued
and the manufacturing sector was suffering from a depressed rate of

B. The anti-pollution requirements of the future; and

C. The need to develop new energy sources;

5 A complete discussion is presented in "Problems and Prospects for the U. S.
Economy: Data Resources Long-Term Projections, 1974-1985," Data Resources,
Inc., May, 1974.



2. The financing needs for this large volume of investment will be met by
large amounts of personal and business saving.

This requires that the saving ratio be higher than its historical average,
which seems reasonable given the maturing nature of the population;

3. Budget deficits will be kept small in accordance with near full employment
once the current recession ends;

4. The inflation of 1973-74 represents an historical episode rather than a
permanent change in the economic structure; and

5. The growth in potential GNP is 3.9 percent per annum for the first five
years of the model simulation, below the 4.7 percent rate of growth
during the five years prior to 1974 and consistent with the projected
slower population growth.

Major assumptions of the control solution are summarized in Table 3.

Table 3


Historical Control
70-74 75-79

Real GNP 4.1 4.3

Gross private domestic
investment 6.2 5.2

Fixed investment 6.0 5.3

GNP deflator 5.1 4.4

Unemployment rate (level) 5.4 5.4

Interest rate on high grade
corporate bonds 7.5 7.6