Monday, January 11, 2016

The Power of Tax Law

In her new book, Taxation in Six Concepts: A Student’s Guide, Professor Anne Alstott ’87 boils down the law of taxation to just six concepts—valuation, net income, realization, tax deferral, substance over form, and income-shifting—and uses them to unpack leading cases and real-world transactions.

Alstott explains the impetus behind her book: “Tax law has an undeserved reputation as dry and corporate. In fact, tax is—in all seriousness—fascinating.”

In the United States, more so than in any other developed country, the tax law hosts many of the government’s most important social and economic policies.” She continues, “Many people think that tax is terribly hard to understand, but in fact, the subject is theoretically coherent and even logical, once you grasp a handful of basic concepts.”

Taxation in Six Concepts, Alstott says, provides a short and readable guide for law and business students. The book not only explains the major cases taught in a typical Federal Income Tax class but also applies the six concepts to illustrate tax planning for transactions in securities and real estate.

We asked Professor Alstott when she discovered her passion for tax law and what the average American would benefit from knowing about the unique structure of the U.S. tax code.

Q: When or how did you discover how fascinating tax law could be?

A: I took tax in my second year at Yale with Visiting Professor Dan Halperin, and I was hooked. I’ve always been interested in public policy, and tax is the home to so much of U.S. social policy. In my third year, I worked as a research assistant to Michael Graetz and got a glimpse into the policy choices incorporated in the Tax Reform Act of 1986. One of the great features of the tax law is that the law changes so frequently that nearly everything is up for grabs, legally and politically. The Congress and IRS change the law so often that it isn’t naïve (as it is, sadly, in some fields of law) to propose new law and see it adopted.

Q: Why do you think tax law has developed, as you say, an “undeserved reputation as dry and corporate"?

A: I think people walk into class assuming that tax is accounting — all about numbers and corporate profits. Probably 95% of my students start out by thinking that tax class is a penance they must do to build a transcript and keep their corporate options open. Luckily, many of those students discover — as I did nearly 30 years ago — that tax is full of critical social policy issues, from the environment (a carbon tax is a serious option for limiting greenhouse gas emissions) to welfare (the earned income tax credit is the largest federal cash transfer to working-aged families) to urban planning (tax subsidies for owner-occupied housing have shaped our cities and suburbs).

Q: What would the average American benefit from knowing about the unique structure of the U.S. tax code?

A: In the United States, perhaps more than in any other country, the tax law incorporates — some would say, “hides” — major social and economic policies. Pretty much everyone knows that the tax law redistributes income, but most laypeople focus on progressive tax rates, which redistribute from rich to poor. But tax lawyers know that the law also distributes money in the other direction — from the poor to the rich. And the tax law is rife with rewards for people who act in prescribed ways (and penalties for those who do not). Hedge-fund managers, famously, pay low tax rates, but so do wealthy people who own stock portfolios and homes and make strategic gifts to charities. By contrast, ordinary wage-earners pay relatively high taxes, as do two-earner couples, renters, and childless people.

Q: Every campaign season, politicians on both sides campaign on simplifying the US tax code, but no one has succeeded in implementing those plans. Would the US benefit from a simplified tax code and what would some of the ramifications be for making changes to the current system?

A: Despite the rhetoric, the political barriers to simplification are formidable. Everyone says they’re for simplicity until someone has to give something up. At the same time, some constituencies gain huge benefits from tax complexity, which tends to reward the rich, the knowledgeable, and the well connected. Among others, lawyers gain massive fees from guiding clients through the minefields of the tax law.

Still, simplification sometimes clears these obstacles, as in the Tax Reform Act of 1986. My colleague, Michael Graetz, has proposed an intriguing plan that would eliminate 100 million tax returns by imposing a value-added tax (common in Europe) and exempting all but the highest-income Americans from the income tax.