this means of financing has become extremely difficult
and in many cases impossible."

"Although this gap in the need for growth capital for
small business has long been known, in the past few
years the problem has become increasingly acute. The
general prosperity after World War II was a time of
easy credit and plentiful money, but even during this
period, small business was unable to fill the need for
growth and expansion through borrowing. With money
becoming tighter and its cost dearer, the first to
feel ill effects is the Nation's small businessman who
is low on the credit totem pole. Thus, during the
past...years borrowed growth funds have not been
available at any price for many small businesses.
Thus, there was no substitute for the historic supply
of growth funds for small business--retained earnings."

"Many were the witnesses who complained of an inability
to keep up with an expanding market simply because of
an inability to obtain the necessary funds for plant
production or inventory expansion. These people have
proved that they can compete with the best that bigger
concerns can produce, but, unlike their expanding
markets..."

Because

"Growth is important in real terms and in dollars.
of the expansion of the economy, one must grow merely to
maintain the same relative position. Further, because of
the inflation of the past two decades, it takes dollar
growth, because of the decreasing value of the individual
dollar. Since our tax system is based on dollars and does
not account for inflation in other than a limited extent,
both of these factors work to require more dollar investment
to stand still relative to that market. There is often no
choice but to grow or die."

"Tax Problems of Small Business," Report of the Select Committee
on Small Business, 85th Congress, 2d Session, Senate Report No. 1237,
January 30, 1958

Responses to the 1977 survey of the Ad-Hoc St. Louis Tax Task

Force (see Chapter 1) reaffirmed this concern of small businesspersons

with their ability to retain earnings, particularly in the face of rapid Tax erosion of earnings available for reinvestment has been

inflation.

3

the most frequently recurring complaint of witnesses in Congressional

4

hearings on small business taxation.

It is therefore a conclusion of this study that as it relates to the establishment, operation and economic health of small business, the existing taxing system discriminates in favor of big business because it does not permit

small business to retain or accumulate capital necessary for its:

O

Survival during period of recession;

Struggle to maintain a sound capital structure during periods
of inflation;

Expansion to compete with other segments of the economy.

3/

Report of the St. Louis Tax Task Force Contribution to
the Study of American Small Business, p.9

4/

For example, see "Small Business Tax Needs," Hearings before
the Select Committee on Small Business, U.S. Senate,
94th Congress, 1st Session, February 4, 5 and 20, 1975

The recommendations of the study for solution to the tax problems encountered in retention of earnings include:

Integration of the corporate and individual taxes by establishing
the separate Small Business Enterprise tax entity (discussed in
Chapters 4 and 5) and simplifying the operation of Subchapter S
for other small businesses (discussed in Chapter 6); and
Provision of tax relief specifically aimed at the major problems

causing tax erosion of earnings otherwise available for reinvest

ment (discussed in Chapter 7).

The Burden Created by Complexity of the System

The 1958 Senate Small Business Committee report had the following to say about tax complexity and its impact on small business.

"The cost of compliance with tax laws is proportionately
greater for a small business than for a large one. Large
business enterprises can afford staffs of experts, whereas
the small business manager must be a jack-of-all-trades at
a time when every type of management problem, and not just
tax problems, are constantly becoming more complex. It is
true that professional tax advisers are more or less
available--at a price--to all, but only an unusually tax-
conscious manager_can recognize some tax problems in time to
consult counsel.

This quotation indicates that the burden of complexity of the tax system,

in real terms, costs the small businessperson in three ways:

The out-of-pocket costs of retaining tax counsel;

The cost of management time devoted to coping with tax problems

which could be devoted to more productive and more profitable activities; and

The out-of-pocket cost of extra taxes and penalties payable because of

lack of tax sophistication necessary to take advantage of tax opportunities and to comply properly with the existing law.

The tax law has become considerably more complex since the quoted words were written in 1958. The volume of the substantive law is obvious from a cursory examination of the Internal Revenue Code (which, in most editions, is 1 1/2 to 2 inches thick) containing hundreds of pages unreadable language (to both the layman and many tax specialists) in small print. The Code is further explained by thousands of pages of regulations, administrative rulings, court decisions and treatises. The problem of understanding the substantive provisions of the tax law is greatly compounded by the necessity of complying with substantial filing and paperwork requirements. "For many small, local, family, or independent business--and especially for the thousands of new businesses which are born each year--this tax statute, together with its related regulations, instructions, guidelines and forms, is a baffling and frustrating maze. Attempting to understand and comply with Federal, State, and local tax obligations constitutes a major drain on the time and productive energies of the nation's small enterprise.'

་་

"As a result of this growing mountain of material--and of special provisions which large corporations can take full advantage of while small business cannot-,,4 the treatment of smaller business has become increasingly inequitable. Concern of the small businessperson with the paperwork problems is indicated by the Ad-Hoc St. Louis Tax Task Force questionnaire responses to the question "What areas of the present federal tax law: A. Cause your businesses the most problems on a recurring, routine basis? B. Are in most need of change in order to provide the greatest incentive for additional investment and expansion of your firm?"

4/

Statement of Senator Gaylord Nelson, Chairman, Senate Select Committee on
Small Business, "Small Business Tax Reform," Joint Hearings before the
Select Committee on Small Business and the Subcommittee on Financial Markets
of the Committee on Finance, U.S. Senate, 94th Congress, 1st Session,
June 17, 1975, p. 3

The most frequent response was to "Reduce the complexity and excessive paper-
,5
The eighth most frequent response to the same

work in filing requirements.

question was to "Simplify the reporting requirements for employee benefit plans. Responses in the same study also indicated substantial concern for problems caused 7 by reporting and payment requirements of employment taxes.

This burden of complexity and paperwork is compounded by the multiplicity

and separate reporting requirements of state and local taxes.

It is therefore a conclusion of this study that as it relates to the establishment, operation and economic health of small business, the existing taxing system creates a bias against small business because of the difficulties encountered in understanding and complying with its complexities, such bias being compounded by the:

Multiplicity of taxes at the federal, state and local levels;

Burden of paying and reporting payroll taxes;

Difficulty of estimating income and paying taxes in advance;

O

O

Lack of educational opportunities in the area of taxation;

Expense and inadequacy of professional tax assistance.

The recommendations of the study for solution to these problems include:
Establishing the Small Business Enterprise as a separate tax entity

to be taxed in a special simplified manner avoiding the complexities

in the tax law necessary for other types of enterprises: (discussed in Chapters 4 and 5);

O

Simplifying Subchapter S to facilitate its use by other small