“I never said half the things I said.”

Not only has the President’s Advisory Panel on Tax Reform thought about the unthinkable — repealing the mortgage interest deduction — it has actually advanced two distinct proposals for comprehensively overhauling the tax code.  While some may see this as nothing more than a trial balloon, I think it will be floating in political possibility space for most of 2006.

The Panel’s major impetus behind the proposals (for a full description see Recap Advisors’ summary, link in .pdf) is, ironically, to undo a provision enacted in 1969 as an anti-embarrassment measure but one that now bids to engulf the rest of the tax code: the Alternative Minimum Tax (AMT).  Because the AMT is not indexed for inflation, over time it captures more and more taxpayers.  Today it affects more than three million households, and current projections show that by 2010, it could affect thirty million households: 90% of households making more than $100,000 per year, and one-third of households making $50,000 to $100,000.  Repealing it is expensive, costing a trillion dollars — that’s $1,000,000,000,000 — over ten years.

“One trillion dollars!  Right …”

Paying for this AMT repeal is hideously expensive, so the Panel, in an exercise of classic old-school political jiu-jitsu,

Please justify your program’s tax expenditure

reverses the burden of proof.  As Recap’s Web Update (to subscribe, click here) puts it:

The Panel achieves this goal by starting from a presumption that nearly all tax preferences should be eliminated.  At a stroke, this captures an enormous amount of income which can ‘pay for’ repealing the AMT.  In addition, zero-basing all current preferences in effect makes all current tax incentives politically guilty until proven innocent.

Naturally, wiping out all current preference beneficiaries means that they will instantly unite to condemn the proposals, and the knee-jerk hyperbole has already begun.  However, in politics, perception is reality, and threats are reality until they are extinguished.  Moreover, a proposed law costs no political capital, making the threat of a proposed law politically stronger than its execution:

Aron Nimzovich: “the threat is stronger than its execution”

About the only certainty is that the uncertainty is likely to persist well into 2006.  That’s bad news, because threats can depress market, even if they have minimal chance of passage.

But then I started thinking about the timing.  Politically astute operators start from the end game and work backwards.  Because the public’s moods are fickle and memories are short, timing is all.  The launch of these proposals has been deliberately timed for a period when:

• Congress is out of session.
• The 109th Congress’s first session (odd year) is over, and the second session (even year) will not begin for a couple of months. 
• The second session is always an election year.

So this proposal has been carefully dropped into a place where it cannot be voted down, indeed cannot be given due consideration, so it will seep into the public consciousness.  What is the proposal’s most significant effect?  To remove several million taxpayers from an obnoxious and reviled tax on middle-income Americans. 

Somebody is playing very deep positional political chess indeed.

In chess a player often speaks of a position “playing itself” because the natural moves are effective.  In political chess this proposal plays itself because the natural sound bites work:

• “Cutting taxes for middle-income Americans.”
• “Simplifying the tax code.”
• “Eliminating fat-cat tax breaks.”

Who could be against that?

“Who’re you calling a fat cat?”

If I sound cynical, it’s because these shibboleths are the same ones deployed in 1986 and 1969 when the tax code was most recently overhauled.  The irony is that the AMT — what we now wish to eradicate — was created in 1969 as a massive tax reform invention to make sure everybody paid some tax, and today it bids to assure that millions pay too much tax.

Speaking of 1986, I can’t help recalling the Panglossian denial with which I and my colleagues back then viewed the emergence of what became the Tax Reform Act of 1986.

“All is for the best in this the best of all possible tax codes.”

Right up until the decisive moment – the public announcements following the closed-door House-Senate conference – the ‘smart money’ thought reform would never happen, and if it did investors would certainly be grandfathered.  Wrong, and wrong, and painfully wrong. 

And my friend Fred Copeman, whose experience extends even further back than mine, offers this memory:

It reminds me of my attendance at the “Stanger Forum” late in 1985.  Bob Stanger hosted that meeting once a year, as you may recall, a gathering of all the chieftains of the tax shelter industry – $5k per head, black tie, cigars and brandy – the whole thing.  I remember running over to Filene’s Basement to buy a tux.

The evening felt like a throwback to a 19th century dinner meeting of railroad tycoons talking about price fixing, Congress-buying and all of that fun stuff.  The after-dinner speaker was Barber Conable, a Republican Congressman from upstate New York [Later president of the World Bank! -- Ed.] and at the time the Ranking Member of the House Ways and Means Committee.  At the time there were some serious rumblings about tax reform but Mr. Conable, in a particularly expansive moment, said something like the following:

“Boys – you have no need to worry about all this talk – we don’t ‘do’ radical tax reform in this country.”

The rest, as they say, is history.

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