1928

Official estimate

1929

1928

1929

BRIEF SUBMITTED BY THE INVESTMENT BANKERS ASSOCIATION OF AMERICA

On behalf of the Investment Bankers Association of America, we present the following recommendations for the consideration of the Committee on Ways and Means of the House of Representatives in connection with the proposed revision of the Federal income and estate tax laws.

INDIVIDUAL INCOME-TAX RATES

RECOMMENDATION

"The further reduction of the rates of the individual income tax so that the burden of taxation caused by war conditions may be restored to peace-time levels as rapidly as is possible and as is consistent with the Government's requirements for revenue."

In support of this recommendation we point out that the Federal tax system should be brought to a permanent peace-time basis. This has not yet been done. Business and revenue conditions can not be expected to offer more inviting opportunity in the future than is now offered. Tax rates should, therefore, be adjusted to what is deemed a fair and permanent level.

CORPORATION INCOME-TAX RATE

RECOMMENDATION

"That an equitable distribution of the tax burden calls for a reduction in the corporation income tax until it accords more nearly with the rate of the normal tax on individual incomes."

The keenness of postwar world competition demands the utmost efficiency in American production and distribution. To secure the utmost economies the size of producing and distributing units must be far beyond the financial scope of any single individual except the very wealthy. Therefore the opportunity for the average American investor to participate in American industry is very largely through the ownership of corporate securities. These corporations must earn and provide a large proportion of individual income upon which the personal tax is based and the proper adjustment of the corporation tax is of essential importance. It is manifest that a burdensome levy on the sources of production must inevitably discourage business enterprise and expansion and result in a curtailment of earnings so that the amount available for the direct tax on corporations and the amounts distributed are also reduced with the result that the Government revenues suffer in both instances. On the other hand, a just and moderate tax on the producer is an encouragement and incentive to business progress and expansion which will be reflected back in greater prosperity, increasing both the direct and indirect sources of governmental revenues.

The revenue act of 1926 materially reduced the tax rates on ordinary individual incomes and increased the personal exemption, nearly all excises were either lowered or eliminated, and yet little relief was afforded the individual investor in corporate securities. The capital-stock tax was repealed and at the same time the corporation income-tax rate was increased, the one substantially offsetting the other. It is said that during the fiscal year 1926 corporations paid to the Federal Government 32 per cent of the total taxes, including customs, collected by the National Government.

Present rates constitute a real discrimination against the investor in corporate securities as compared with individuals and partnerships engaged in business. At the present time it is estimated that the majority of those paying individual income taxes pay at the minimum normal rate of 11⁄2 per cent, yet these numerous investors in corporate securities are assessed at the corporate source 131⁄2 per cent on all net income received by the corporation, there thus being a differential of 12 per cent in such instances. This discrimination has been steadily growing more serious as the effective rates on individual incomes have been reduced without corresponding reductions in the corporation rates and it is now roughly half again as great as in 1922.

THE ESTATE TAX

RECOMMENDATION

"The immediate repeal of the Federal estate tax, upon the ground that death taxes should be left to the several States and that such levies should be used by the Federal Government only in times of war emergencies."

The history of the use of estate or inheritance taxes by the Federal Government is that such levies have been used only in times of war emergencies. The present tax has lasted longer after the emergency than any other in our history.

The present tax is no longer needed for Federal revenue. The application of the 80 per cent credit provision, together with the costs of collecting the remaining 20 per cent, would not appear to justify the retention of this tax.

The estate tax is not logically a Federal tax, as a permanent measure, because Federal law does not control the transmission of property at the time of death.

The estate tax is peculiarly a form of taxation that should be reserved to the States as State taxation only.

CAPITAL GAINS AND LOSSES

RECOMMENDATION

"The elimination of both items of capital gains and capital losses for purposes of the income tax."

The tax on capital transactions is objectionable for the following reasons: 1. It disregards the ordinary distinction between capital and income and assumes for tax purposes that increases in property values which the ordinary owner looks upon as being merely part of his capital constitute taxable income for the single year in which the sale takes place.

2. As a tax on capital, it gives rise to great dissatisfaction, and has in fact operated as a substantial force restraining business transfers, and in many cases has been a prohibitive tax on the sale of capital assets.

3. Because of the impossibility of satisfactorily determining questions of property valuation it has been impossible for taxpayers to know definitely in advance of capital transactions what their tax liability would be, and administration of the law has been rendered difficult, slow, and uncertain instead of simple, prompt, and certain.

In appraising the effect of the tax upon the sale of capital assets (not stock trade or other items held primarily for resale) it is especially important to note that the tax actually prevents the consummation of many transactions. All of the increase in value of property over its cost or over the March 1, 1913, value, when realized by sale, is taxed as part of the income of the year in which the sale takes place. Such increase in value of property may have extended through any number of years. The mere fact that property has advanced in value between the date of its acquisition and sale is not looked upon by the ordinary owner as justifying the imposition of an income tax on the increase. To him it constitutes merely an increase of his capital. To tax this increase as current income of a single year seems to the ordinary owner as being little less than a confiscatory tax on his capital, and the result is in most cases to deter him from making the sale.

The reasons stated above justify the conclusion that capital transactions have no proper place in an income tax, which logically and justly should be levied only on the annual recurring flow of income, which is generally looked upon by the ordinary taxpayer as income as distinguished from capital.

Figures are not available by which to estimate what might be the resultant loss of revenue if the recommended repeal were made. But if both items of capital losses as deductions as well as capital gains as income should be eliminated the opinion appears to be justified that the elimination would result in no material decrease of revenue to the Government over a period of years.

The repeal is also to be urged upon the ground that it would greatly simplify the law. Probably the most complicated provisions of the whole law are those dealing with this subject. Particularly is this true with respect to the necessity of establishing property valuations as of March 1, 1913. In connection with such questions differences of opinion are bound to occur and their determination necessarily depends upon the exercise of discretion. Experience thus far

shows that the disputes arising between the Government and taxpayers in regard to these questions of valuation are not only extremely difficult of satisfactory solution but that they require a great deal of time for decision and are directly responsible for preventing the desired result of an early and certain determination of tax liability on the part of the taxpayer. The result also is that it is impossible for taxpayers to know in advance of capital transactions what their tax liability will be.

No question is raised as to the power of Congress to make an income tax law apply to capital gains. The definition of the term "incomes" which has been developed by the decisions of the United States Supreme Court in the cases decided under the sixteenth amendment to the Constitution, expressly includes capital gains. But whether such a tax represents a sound and wise policy of taxation is another question, and it is solely upon that ground that the repeal of the tax is urged.

FOREIGN HELD BONDS

RECOMMENDATION

"The exemption of the interest on bonds, notes, and other obligations of American corporations held by nonresident aliens from the application of the United States income tax when the country of which such nonresident alien is a citizen or subject in like cases extends reciprocal rights to citizens of the United States."

We propose an amendment to what is now subdivision 1 of section 217 (a) in the present revenue act of 1926, by the addition of a new clause as follows:

"Provided, however, That interest on bonds, notes, and other obligations of domestic corporations held by nonresident aliens shall not be treated as income from sources within the United States except to the extent that the country of which such nonresident alien is a citizen or subject taxes interest on bonds, notes, and other obligations of its domestic corporations when held by citizens of the United States."

The reasons for this suggestion are briefly as follows:

The application of the income tax to foreign held bonds acts as a barrier to the free distribution of securities internationally.

Such taxation is now imposed both by Great Britain and in the United States. Thus a British subject holding American securities finds himself liable to double taxation, namely, a tax in Great Britain on the income received and a tax in the United States as the source of the income. Likewise the American citizen owning British securities is taxed in both countries. . In the United States the situation is somewhat alleviated by the ailowance of a limited credit, but, due to the limited nature of this credit, in the majority of cases such income is subject to double taxation.

Nationals of other countries holding bonds of American companies are also liable to pay the United States income tax, and thus a Canadian subject or an investor in Holland loaning money to a corporation in this country finds himself in a position where he not only does not receive his full interest, as stipulated by the terms of the bond, the amount of the tax being withheld, but in addition such nonresident alien may find himself placed under the obligation of making out an income-tax return printed in a language other than his own and filled with technical terms.

The result of all of these factors is the restriction of foreign markets for American bonds.

At an international conference on double taxation, held in London April 5–12, 1927, draft treaties or bilateral conventions were drawn up for the guidance of countries desiring to eliminate double taxation on their citizens who reside or do business abroad. Attending the conference were representatives of the United States, Argentina, Belgium, Czechoslovakia, France, Germany, Great Britain, Italy, Japan, the Netheriands, Poland, Switzerland, and Venezuela. A considerable number of bilateral conventions have already beeen adopted by European countries, affording material relief to their respective taxpayers or nationals against the burden of double taxation. And it is highly probable that this number will be rapidly multiplied, American business men and investors will be materially handicapped in international business unless in some way the American Government secures for its residents and nationals similar protection against double taxation. Constitutional limitations and diplomatic traditions make it difficult for the United States to conclude treaties

or conventions modifying its fundamental tax laws; but it is possible for the United States, by suitable modification of its revenue laws, made in advance, to participate in this highly desirable form of international cooperation. We recommend, accordingly, that the House of Representatives initiate and the Congress adopt such amendatory legislation as is necessary to enable the proper American authorities to conclude international agreements designed to prevent or minimize double taxation.

CONSOLIDATED RETURNS

We recommend that section 240 (d) of the revenue act of 1926 be amended to read as follows:

"(d) For the purpose of this section two or more domestic corporations shall be deemed to be affiliated (1) if one corporation owns at least 95 per cent of the stock of the other or others, or (2) if at least 95 per cent of the stock of two or more corporations is owned by the same interests. As used in this subdivision the term 'stock' does not include stock which is limited and preferred as to dividends. This subdivision shall be applicable to the determination of affiliation for the taxable year 1926 and each taxable year thereafter."

The only change accomplished is the elimination of the word "nonvoting" from the following sentence:

As used in this subdivision the term 'stock' does not include nonvoting stock which is limited and preferred as to dividends."

There are cases where holding companies, particularly public-service corporations, own 100 per cent of the common stock of older subsidiary companies, some of whose preferred stock is nonvoting and some has voting power. The preferred stock has been mostly distributed locally and bears a definite rate of dividend. We feel that it would be entirely proper that such companies should be able to make a consolidated return under such conditions. This class of

cases is not essentially different from the class of cases where there is outstanding nonvoting stock which is limited and preferred as to dividends, because both classes of stock are in substantially the same position, with the exception of voting power, and both occupy what is practically a creditor status. Respectfully submitted.

OCTOBER, 1927.

CARROLL J. WADDELL,

Chairman, Taxation Committee, Investment Bankers Association of America, 105 South La Salle Street, Chicago, I.

BRIEF SUBMITTED BY THE ASSOCIATED INDUSTRIES OF MASSA

CHUSETTS

RECOMMENDATIONS SUBMITTED BY SUBCOMMITTEE ON FEDERAL TAXATION, AND APPROVED BY THE ADVISORY COMMITTEE ON TAXATION AND THE EXECUTIVE COMMITTEE, WITH A VIEW TO AMENDMENT OF THE FEDERAL REVENUE LAW

Our present Federal revenue law (act 1926) unduly burdens thrift and industry and imposes serious inequalities and hardships upon taxpayers (1) through unreasonable discrimination and complexity in the determination of taxable income and in the assessment or recovery of tax thereon; (2) through penalizing corporate stockholders by excessive taxation of corporate income and placing corporate ownership at a disadvantage in comparison with partnership or individual ownership; (3) through a confiscatory and unnecessary

estate tax.

As suggested amendments to the law there are submitted the following specific recommendations:

(1) Rearrangement and revision of statute.-The revenue law should be recast either through appropriate rearrangement in a single enactment or through an appropriate series of separate enactments, in order that the income tax may be dealt with in a separate division or act dealing solely with that subject. The language of the statute or statutes should be thoroughly revised with a view to eliminating so far as possible cross references, repetitions of stereotyped expressions, parenthetical in their nature, and awkward, cumbersome, and obscure words or phrases. In such revision care should be taken to state in the first instance the entire cycle of the ordinary taxpayer's duties and obligations, segregating special provisions, including those containing defi

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