There are many reasons the tax law is as awful as it is, but one reason is too often overlooked: the way Congress writes laws to respond to headlines. Two current examples show how this works.
S corporation compensation. Lots of congresscritters remember Newt Gingrich unfondly. When it came out that he used an S corporation, and therefore paid less employment tax than the critters in their infinite wisdom thought appropriate in hindsight, they proposed a new bill, reports Linda Beale. Actually, they've repropoposed an old bill -- the worst of two bills proposed in 2010 to fight the same "abuse." The bill would treat S corporation distributions as subject to payroll taxes if 50% or more of a firm's value was due to the "reputation and skill" of three or fewer owners. As we noted the first time this came around, this bill would punish the smallest service providers (not me! We have ten shareholders) and create horrendous valuation problems. Let's hope it dies again.
Stock Options. The second example is a new proposal to limit the deduction for stock option compensation expense (via Going Concern). When an employee exercises a typical stock option, the employee has taxable income to the extent the value of the option exceeds the option price; the corporation has a deduction for the same amount. Because the Facebook IPO will reportedly wipe out the company's taxable income, congresscritters want to delay such deductions. Never mind that the deduction on one side triggers just as much income on the employee side, plus payroll taxes. Never mind that it creates complexity and disturbs a useful simplicity and symmetry. Something must be done!
While the current legislative gridlock may mercifully stop these bad ideas for now, some of the most dreadful parts of the tax law came about as responses to headlines. Examples that come to mind:
- Section 409A deferred compensation rules. These brutal and horrendously complex rules make deferred compensation plans difficult, dangerous and expensive for everyone because Congress thought Ken Lay did bad things.
- The $1 million limit on executive cash compensation -- which did much to encourage the option-based compensation plans that the critters suddenly find distasteful.
- The disastrous, fraud-ridden and futile First-time Homebuyers Credit was a headline-driven response to the collapse in housing prices.
- The absurd alternative minimum tax itself was born in response to headlines about rich people avoiding taxes.
Not every problem is a tax problem. Not every result a congresscritter dislikes is a problem. And when there is a tax problem, not every bill is the solution.
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You should have your W-2 from your employer by now. William Perez has some thoughts on what to do if it hasn't shown up yet. ]]>
