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Fcpn F. R. 131 BOARD • F GDVERN• RS ^ ^ FEDERAL RESERVE SYSTEM T)ffice Correspondence ip0 Dr. Goldemveiser^ Frftm George Jaszi f ^ ^^ Da te Subject; J May 2?, 19^2 Individual Inccene Tax Program of Ways end Means Committee The Ways and Means Committee has now come to a tentative agreement regarding the second item on i t s agenda, the individual income tax. It has already dealt with corporate taxes in previous sessions. The main subjects %¥hich i t w i l l have to take up in coming weeks are excise taxes and the general sales tax. But decision w i l l also have to be reached on estate and g i f t taxes and on a large number of smaller issues that have not yet been settled. There i s l i t t l e evidence so far when enactment of the revenue b i l l can be expected. Last year f i v e months elapsed between the opening of the hearings of the Committee and the signature of the revenue act by the President. Hearings started almost two months e a r l i e r this year; but progress to date has certainly not been f a s t e r . On the basis of last year's record enactment of the measure could be expected around the beginning of August. But further delay would not be surprising. From the standpoint of the inflationary danger a l l delay i s to be regretted. Whatever incentive there may be for individuals to provide currently on an accrual basis f o r tax payments on 1$L\2 incomes is greatly diminished by the f a c t that f o r more than one half of the year they do not even know to what taxes they are subject on the incomes which they are earning. In the case of commodity taxes, which are collected currently, the e f f e c t s of delayed enactment are even graver. The following are the main features of the individual income tax program of the lays and Means Committee. 1. Reduction of Personal Exemptions Personal exemption f o r married persons and heads of families i s reduced from #1,500 to §1,200 and f o r single individuals from |750 to $500. Under the Treasury proposals the married and head of family exemption would have been reduced to the same l e v e l , but |600 instead of §500 would have been allowed to single individuals. The credit f o r dependents and the earned income credit remains unchanged. The Treasury has recommended a reduction of the credit f o r dependents from $1|00 to 1300 and abolition of the earned income c r e d i t . 2. Tax Rates Normal tax i s imposed at 6 per cent instead of the 2j. per cent of the present law and of the Treasury proposals. To: Mr. Goldenweiser -2- Surtax starts at 12 par cent on the f i r s t $2,000 of surtax net income and rises to 81 per cent on income in excess of $200,000. Under the present law surtax starts at 6 per cent and r i s e s to 77 P e r cent on income in excess of #5*000,000. The Treasury suggested an i n i t i a l surtax rate of 12 per cent, confined, however, to the f i r s t |500 of surtax net income. Subsequent graduation of rates under the Treasury proposals would have been much sharper. A few significant comparisons between the Committee proposals, on the one hand, and the present law and the Treasury proposals on the other follow* a. Representative tax payers now at exemption limits would pay approximately |i|D under the Committee proposal. b. Tax l i a b i l i t y on incomes up to $5*000 of representative married couples, and up to $3,000 on incomes of single individuals would be more than doubled, the percentage increase being of course larger the smaller the income. c . The percentage increase f o r larger incomes would be smaller. Tax l i a b i l i t y on incomes of §10,000 would be increased by 50-60 per cent depending on the family status of tax payers. The corresponding increases f o r incomes of $25*000 would range around 30 per cent, and a round 20 per cent f o r incomes of $100,000. d. One-quarter of incomes of approximately f15*000, one-half of incomes of $50*000, and almost two-thirds of incomes of $100,000 would be taken in taxes i f the Committee proposals were enacted. e . The Treasury program would have resulted in more drastic rates on a l l incomes except the following low income groups ( l ) single individuals earning less than |1,900 are actually harder hit under the Committee proposals than they would have been under the Treasury program. (2) Families without dependents earning up to #2,000 are treated about the same under both schemes. !£ypical lower and upper middle class incomes would have been h i t considerably harder under the Treasury proposals than under the Committee proposals. 3. Mandatory Joint Returns The Committee voted to require married people living together to f i l e j o i n t returns. It i s the aim of this proposal to eliminate the existing discrimination in favor of (a) families in which both spouses contribute to income (b) families receiving property income and (c) families domiciled in the community property states. Under the separate f i l i n g option now in force such families can reduce their tax l i a b i l i t y below that of other families. Mandatory j o i n t returns eliminate these discriminations, but To: Mr. Goldenweiser -2- only at the expense of grossly over-taxing families as compared with single individuals at moderate income l e v e l s . I t i s regrettable that the Committee chose this method of eliminating existing discriminations. Separate taxat i o n of married person on the basis of one half of the family income would have eliminated these discriminations just as e f f e c t i v e l y without i n t r o ducing any new ones. Continued Tax Exemption of Existing and Future Issues of State and Local Securities Overruling the recommendations of the Treasury the Ways and Means Committee voted to continue tax exemption of existing and future issues of State and l o c a l securities* 5, Capital Gains and Losses The t r i p l e holding period which distinguishes short term assets and two types of long term assets under the present law i s replaced by a double holding period setting the dividing line between short term and long t e m assets at 15 months, Net long term gains, included in income to the extent of 50 V e r (the percentage now applicable t o assets held 2I4. months) are taxed under the income tax at an e f f e c t i v e ceiling of 25 per cent, as compared with present ceilings of 15 and 20 per cent. Long term losses are disallov/ed as deductions from ordinary income, just as short term losses are already disallowed. But there is t o be complete o f f s e t t i n g of short and long term gains and losses against each other, the latter of course being reckoned at 50 per cent. Under the present law there i s no o f f s e t t i n g between short t e m gains and long term losses or vice versa, A f i v e year carry-over of a l l net capital losses i s substituted for the present one year carry-over of short term losses. As a r e l i e f provision to small tax payers $1,000 of capital l o s s , whether short or long term, i s allowed as o f f s e t against ordinary income. These revisions resemble closely the proposals originally made by the Treasury, The most important differences a.re as follows: ( l ) The dividing line between short and long term assets i s set at 15 months instead of 18 months as suggested by the Treasury, (2) Net long term gains are taxed at a maximum e f f e c t i v e rate of 25 per cent instead of 30 per cent as suggested by the Treasury, (3) Banks and insurance companies receive special concessions under the Committee proposals. Banks may continue t o o f f s e t capital losses from bonds or other evidences of indebtedness against ordinary incope. Similar treatment i s granted to insurance companies, 6, Minor Provisions The Committee voted to raise tax rates on mutual investment companies, personal holding companies, non-resident foreign corporations and To: Mr. Goldenweiser -2- non-resident alien individuals to bring these rates into line with the increased rates of individual and corporation income tax. Withholding Tax The Treasury i s urging the Committee to enact a withholding tax of 10 per cent on incomes in excess of personal exemptions and credits f o r dependents by means of which part of the I9I42 tax l i a b i l i t y would be c o l l e c t e d currently at source. Yield of Proposals The individual income tax proposals of the Committee w i l l yield $2.7 b i l l i o n (gross, before allowance f o r decreases in the individual income tax base due to higher corporate tax r a t e s ) . This compares with II4..3 b i l l i o n under the Treasury proposals (and not t j . 2 as given in press reports), a shortfall of f l . 6 b i l l i o n . Prospects The corporate tax program of the Committee f a l l s short of the Treasury program by another $6Q0 million, and the Committee l o s t another I3Q0 . million through i t s refusal to abolish percentage depletion and tax exemption of State and local securities« Up to date, therefore, the Committee i s $2.5 b i l l i o n short of the Treasury program (and not |l#5 b i l l i o n as reported in the press). It i s possible that this gap w i l l be f i l l e d by the enactment of a sales tax. Sentiment in favor of such a tax i s strong among the members of the Committee. Some observers, however, believe that the lowering of personal exemptions was intended as a substitute f o r a sales tax at least for the present; and that the Committee, with or without agreement on the part of the Treasury may decide t o enact a tax program whose yield f a l l s short of the |8.7 program suggested by the Treasury. In that case the Treasury might attempt to obtain a boost in the program wft&h the b i l l reaches the Finance Committee of the Senate. COMPARISON OF PRESEHT AHD PROPOSED INDIVIDUAL IICCMB TAX LIABILITIES Income Amount of tax !J ) Ways and Means Treasury 1941 law Committee E f f e c t ]Lre rates (per cent) lays and Means Treasury 1941 law Committee (Married, no dependents) # 1,300 1,500 3,000 5,000 10,000 15,000 25,000 100,000 1,000,000 $ — 1 138 375 1,305 2,739 6,864 52,704 732,554 12 45 306 708 2,064 3,914 8,982 63,072 8144,012 1 16 148 357 889 2,549 4,673 10,143 69,229 879,205 — 4.6 7.3 13.1 18.3 27.5 52.7 73.3 14.2 20.6 26.1 35.9 63.1 84-4 1.2 3.2 11.9 17.8 25.5 31.2 40.6 69.2 87.9 1.8 10.8 1.6 3.5 14.4 0.9 3.0 10.2 (Married, two dependents) 2,000 2,300 5,000 10,000 15,000 25,000 100,000 1,000,000 — 271 1,117 2,1+75 6,480 52,160 731,930 40 540 1,800 3,586 8,526 62,416 843,316 32 80 721 2,321 4,397 9,777 68,701 878,665 — 5.4 11.2 16.5 25.9 52.2 73.2 18.0 23.9 34.1 62.4 84.3 23.2 29.3 39.1 68.7 87.9 (Single) 600 750 2,000 3,000 5,000 10,000 15,000 25,000 100,000 1,000,000 — 117 221 14S3 1,493 2,994 7,224 53,214 733,139 14 41 258 447 875 2,295 4,221 9,361 63,646 844,621 __ 24 263 509 1,069 2,777 4,961 10,509 69,757 879,745 — 5.9 7.4 9.7 14.9 20.0 28.9 53.2 73.3 2.4 5.5 12.9 14.9 17.5 22.9 28.2 37-5 63.6 84.5 3.2 13.2 17.0 21.4 27.8 33.1 ij2.0 69.8 88.0
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