REDUCTION IN INDIVIDUAL INCOME TAX MONDAY, MARCH 8, 1948 UNITED STATES SENATE, The committee met at 10: 10 a. m., pursuant to adjournment, in room 312 of the Senate Office Building, Senator Eugene D. Millikin (chairman of the committee) presiding. Present: Senators Millikin, Brewster, Martin, George, Barkley, Connally, Johnson, and Lucas." Also present: Senator Overton. The CHAIRMAN. The hearing will come to order, please. Mr. Schoeneman, we are glad to have you here this morning. Will you state your full name. STATEMENT OF GEORGE J. SCHOENEMAN, COMMISSIONER OF Mr. SCHOENEMAN. My name is George J. Schoeneman. Mr. SCHOENEMAN. Commissioner of Internal Revenue. The CHAIRMAN. Will you proceed, Mr. Schoeneman, please. Mr. SCHOENEMAN. Mr. Chairman and members of the committee, I appreciate the opportunity to comment on the administrative aspects of H. R. 4790. At the outset, I should like to make it clear that it is not within my province as Commissioner of Internal Revenue to discuss whether there should or should not be a tax reduction. But as Commissioner I am responsible for all management processes required in the administration of revenue legislation, and in this capacity the Bureau considers itself the servant of the individual taxpayer as well as the Government's tax-collecting agency. Effect of the bill on the number of tax returns: Secretary Snyder has advised you that the various provisions of H. R. 4790 would remove some 6.3 million taxpayers from the tax rolls. This does not mean that the number of tax returns would drop 6.3 million. Actually the total decrease in the number of returns required to be filed as compared with present law would be 2.8 million. The CHAIRMAN. How many taxpayers would it take from the roll? Mr. SCHOENEMAN. 6,300,000. The CHAIRMAN. You mean 6,300,000 people who are paying taxes now would not pay taxes? Mr. SCHOENEMAN. That is right. The CHAIRMAN. But a certain number of those would nevertheless be filing returns; is that the point? Mr. SCHOENEMAN. That is right. The smaller decrease in number of tax returns than in number of taxpayers results in part from the fact that returns are required even though they are nontaxable in those cases where the gross income exceeds the filing requirement but is offset by such items as business expenses, deductions, and exemptions. In addition, we normally get several million nontaxable returns that have the character of claims for refund, because the annual income of a person may be below the filing requirement but wages for one or more pay-roll periods during the year are of sufficient size to require the employer to withhold tax. Without any change of law we estimate a total of 56,000,000 individual income-tax returns will be filed for the tax year 1948. This compares with 55 million for the tax year 1947 and 52.8 million for the tax year 1946. The CHAIRMAN. Is this increase due to increased income? Mr. SCHOENEMAN. Yes, sir; and added number of income receivers. The CHAIRMAN. Proceed. Mr. SCHOENEMAN. Therefore, it will be observed that even after effect is given to the change in filing requirements under H. R. 4790, we will still have a larger volume of returns for the tax year 1948 than for the tax year 1946. Importance of the tax form in tax administration: As I stated to the Ways and Means Committee, the Bureau of Internal Revenue in its role as administrator of the tax laws represents you in interpreting these laws for the people. Practically the entire wage-earning and income-receiving population is affected by the bill before you, and relatively few of these people ever read the law. To them the tax return with the accompanying instructions which the Bureau places in their hands is the law. That, I think, is as it should be. It is because the income tax blank is such an important instrument in translating the law into revenue collections that we have placed so much emphasis upon its appearance and content; and that interest has been shared by your committee. Items which will present difficulties for the taxpayer and the Bureau: Some of the provisions of H. R. 4790 will not create any additional compliance problems. Others will eliminate some of the problems under present law. There are, however, four problems affecting principally the low-income groups which are certain to cause difficulty from the compliance standpoint, both with regard to taxpayer reaction and efficiency and economy of operation. The four problems relate to: (1) The method of the rate reduction; (2) The introduction of three rates of tax on the first $2,000 of taxable income as compared with one under present law; (3) The split-income provisions-I am not referring here to the general split-income provision but to the effect of split income coupled with the division of the first surtax bracket-and (4) The lack of correlation between the final tax liability and withholding, and the additional withholding rate applicable to employers using the percentage method of withholding. The above items are interrelated, and I would like to enumerate rather briefly the specific problems which will arise under them. To aid in visualizing these problems, portions of the forms materially affected by them have been drafted. A comparison of these drafts with the corresponding portions of the present law forms is shown in exhibits A, C, and D. Manner of effecting rate reduction: H. R. 4790, in effect, provides a rate reduction by reducing the tentative tax computed under present law normal tax and surtax rates. A comparison of the tax computation schedule from page 3 of the present Form 1040 and the schedule which would be required under H. R. 4790 if the percentage reductions are set forth on the return is shown in exhibit A. This method of rate reduction is probably a carry-over from H. R. 1. Originally, as you will recall, a straight across-the-board rate reduction was planned. The bill before you, however, grants tax reductions by several devices other than the percentage reduction. There is the increase in exemptions, the split-income provision, the special exemption for the aged, and others. Less than one-fifth of the over $6,000,000,000 reduction would actually appear in the form of reduction in tentative tax in accordance with percentages prescribed by the bill. Let us look for a moment at the taxpayers who will see this reduction and how it will appear to them. Some 23,000,000 returns will be filed on Form W-2, and the filers of these returns will not see the percentage reductions. About 21,000,000 returns will be filed on Form 1040 and the tax will be determined from the Supplemental T tax table. Again, these return filers will not see the percentage reduction, so that only the filers of some 9,000,000 returns will be troubled with these percentages and will see the dollar reductions in the tentative tax. I believe that they are likely to be confused by what they see. Let us take the case, for example, of a married person with a wife and child whose net income is $2,000. The tax liability under present law is $95, the tax liability under H. R. 4790 is $26.60, a decrease of $68.40 or 72 percent. Under the mechanics prescribed by H. R. 4790, the return of this couple would show a tentative tax of $40, and a reduction of tentative tax of $13.40 or 3312 percent. It would seem to me that setting forth this percentage reduction on the return would serve only to confuse the couple into thinking they had received a tax reduction of $13.40 when the actual reduction is $68.40. The CHAIRMAN. Of course, as a practical matter, they would have the comparison between what they paid under the proposed law and what they paid under existing law, and the difference would not escape their attention, would it? Mr. SCHOENEMAN. I believe in this method one portion of the reduction would be emphasized, but the balance of it would be rather hidden. The CHAIRMAN. Your point is clear, but I am wondering in practical effect whether the taxpayer who put out $95 at the present time and would wind up on his next return putting up $26.60 would be unconscious of the difference between the two, and would think that he had only a reduction of $13.40. Mr. SCHOENEMAN. I think, Mr. Chairman, if his income for the previous year and 1948 were the same, he would be conscious of it; but if there was a change in income, I do not think that with the 1947 bill before him—that is, the bill in effect in 1947-he would be conscious of it. I think his attention would be directed to the smaller item which is shown on the rate schedule. The CHAIRMAN. We certainly wish him to be conscious of the reduction. Mr. SCHOENEMAN. Let us take just one more case-a married couple with $10,000 net income-and see what impression the percentage on the return would give them. Under present law, the tax liability is $2,185; under H. R. 4790 the tax liability is $1,454.64, a reduction of $730.36 or 33 percent. If the percentage reductions prescribed by H. R. 4790 are set forth on the return, this couple would compute a tentative tax of $1,888, and reduce it by $433.36 in arriving at their final tax. Thus of the actual tax reduction of $730.36, only $433.36 would be reflected in the percentage reduction. While it is true that no single return is affected by more than one of the several formulas, the problem is to get taxpayers to choose the correct formula. This percentage-reduction formula, if provided on the return, will serve only as a stumbling block and a source of mathematical errors by taxpayers, increasing the verification job for the Bureau. We have developed a combined normal tax and surtax schedule which reflects the percentage reductions of H. R. 4790 and which provides the same amount of tax as the roundabout method described above. While this method is simpler than that provided by the bill, it is rather cumbersome since it involves a peculiar break within the first surtax bracket and involves rates which are not in even percentages. It would also be necessary to accompany this schedule with complicated rules for use by taxpayers with partially tax-exempt interest. The CHAIRMAN. Are you referring to your own schedule, or what you would have to do under this bill? Mr. SCHOENEMAN. No, sir; our own schedule. That would have to be described in some way to take care of that partially exempt interest.. The CHAIRMAN. Proceed. Mr. SCHOENEMAN. The combined normal tax and surtax schedule is shown in exhibit B as it might appear on Form 1040. Let me assure you again that this schedule will produce precisely the same tax liability in each individual case as would the percentage reduction as shown in exhibit A. For example, assume a surtax net income of $1,000. Under the percentage method prescribed by the bill, a tentative tax-20 percent of $1,000, or $200-would be computed and reduced by 33.5 percent, or $67, leaving a tax liability of $133. Under the combined rate schedule as shown in exhibit B, the $133 tax liability would be computed by applying the 13.3 rate directly to the surtax net income. We believe this makeshift schedule is the lessed of the two evils. Two Supplement T tax tables: Due to the income-splitting provisions, the tax liability for incomes under $5,000 can no longer be determined merely by referring to the total number of exemptions and the amount of adjusted gross income. To illustrate, today the tax liability applicable to an adjusted gross income of $2,500 is the same for (1) A single person with one dependent; (2) A married person filing a separate return and claiming an exemption for a dependent child; |