1 A Progressive System of Mark-to-Market Taxation President’s Advisory Panel on Federal Tax Reform May 11, 2005 David S. Miller

2 Description of the Proposal  The following taxpayers would pay tax each year on any appreciation in the value of their publicly-traded property and derivatives: ⁻ All public companies ⁻ Private companies with $50 million or more of net assets ⁻ Individuals and married couples with $1.6 million of adjusted gross income or $5 million of publicly-traded property Represents the 0.1% highest income and 0.1% wealthiest households ⁻ These taxpayers would “mark” their publicly-traded property to “market” values (i.e., treat them as sold and immediately repurchased).  All other taxpayers would remain on the current “realization system.”

3 Description of the Proposal  Corporations: ⁻ Mark-to-market gains taxed at current 35% rate. ⁻ Mark-to-market losses fully deductible.  Individuals: ⁻ Mark-to-market gains (and qualified dividends) taxed at 15% long-term capital gains rate. ⁻ Interest and other ordinary income taxed at current 35% rate. ⁻ Mark-to-market losses: Fully deductible against prior mark-to-market gains, current qualified dividends, and current capital gains May offset 43% (15% divided by 35%) of ordinary income May be carried forward indefinitely.

4 Description of the Proposal  Significant additional revenue without raising rates or imposing new taxes.  If in place in 2004, the Google IPO alone would have generated over $2.2 billion of additional revenue.  The revenue generated by mark-to-market taxation would be used to: ⁻ Repeal the alternative minimum tax ⁻ Eliminate all tax on investment income for low-income taxpayers or expand 401(k)s for all Americans.

5 Benefits of the Proposal — Simplification Eliminates the alternative minimum tax. Eliminates tax planning and a number of anti-abuse rules for mark-to-market taxpayers. ⁻ “Straddle,” “short sale,” “wash sale,” “constructive ownership” and “constructive sale” rules, and capital loss limitations unnecessary for mark-to-market positions.

6 Benefits of the Proposal — Closes Loopholes and Eliminates Shelters Renders a number of the most prominent tax shelters impotent. For example, “tax loss generators” are impossible under a mark-to-market system. ⁻ Tax losses arise only if the taxpayer’s securities in fact decline in value.

7 Benefits of the Proposal — Progressivity  Uses the “incidence” of tax to achieve progressivity. ⁻ Public and large private corporations, and top 0.1% wealthiest households subject to mark-to-market taxation on publicly-traded property and derivatives.  The tax burden is increased for these taxpayers. ⁻ Other corporations and most individuals remain on realization.  The tax burden remains the same for these taxpayers.

8 Benefits of the Proposal — Fairness  Ensures that large and wealthy investors taxed similarly to wage earners. ⁻ Wage earners cannot avoid tax on the wages they receive. ⁻ Large investors can avoid virtually all tax on their appreciated securities by hedging their risk with derivatives and monetizing their positions by borrowing against their hedged securities indefinitely.  If estate tax is repealed, appreciation will never be taxed.  Proposal eliminates this “loophole” and prevents deferral of tax for large investors.

9 Benefits of the Proposal — Eliminates Inefficiencies and Enhances Liquidity in the Capital Markets  Eliminates the “lock-in effect” ⁻ Current law artificially discourages taxpayers from selling their appreciated securities  Eliminates the “lock-out effect” ⁻ Current law artificially discourages taxpayers that sell their depreciated securities at a loss from repurchasing them within 30 days.  Properly taxes complex financial instruments ⁻ Derivatives cannot be used to minimize tax under a mark-to- market system.

10 Benefits of the Proposal — Encourages Work Effort, Savings and Investment  Permits middle-income Americans to retain more of their wages by eliminating the alternative minimum tax.  Encourages savings by eliminating all tax on the investments of low-income taxpayers or expanding the scope of 401(k) plans.  Complements the President’s “progressive indexing” proposal for Social Security: ⁻ Enhances retirement savings for low-income taxpayers.

11 Benefits of the Proposal — Book/Tax Conformity U.S. corporations are required to mark-to-market their securities and derivatives under GAAP. ⁻ Proposal taxes these corporations on the earnings they report to their shareholders. The United Kingdom already requires taxpayers to pay tax on the securities and derivatives they mark-to-market under GAAP.

12 Summary A progressive system of mark-to-market taxation achieves all of the President’s tax reform objectives: ⁻ Simplifies. ⁻ Enhances progressivity. ⁻ Eliminates alternative minimum tax. ⁻ Retains home mortgage interest and charitable donation deductions. ⁻ Closes loopholes and eliminates tax shelters. ⁻ Encourages saving and investment. ⁻ Revenue neutral. ⁻ Does not raise rates, deny deductions, or impose new taxes.