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Is debt the villain?

January 24, 2012

The real devil in the details of Mitt Romney's tax life is the tax code's preference for debt financing, according to's Martin Sullivan:

As Congress desperately searches for revenue to pay for a reduced corporate tax rate, it should consider limitations of interest deductions when there is excessive debt. Even if the Romney campaign convinces you that leveraged buyouts are totally benign, there is still no reason for the United States to maintain a tax system that favors them over venture capital.

His second sentence may well be true, but it doesn't mean the solution in his first sentence is the way there. Instead of punishing borrowers by limiting their deductions, you can instead reward equity financing by making dividends deductible.

I still think a dividends-paid deduction is a promising but under-discussed solution to the problem of high corporate rates and double taxation. Such a system would tax revenue at the corporate level when it is earned, but it wouldn't prefer debt over equity. The problem of deductible dividend payments to tax-exempt or foreign entities could be handled with a withheld excise tax on the payments to ensure the income is at least taxed once. It would eliminate the need for a preferential rate for dividends, perhaps quieting the smug and ignorant.

Related: Why not a dividends-paid deduction?

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