The report of the President's Advisory Panel on Tax Reform, issued in November 2005, recommended two reform plans to consider: 1) a revised income tax, referred to as the simplified income tax (SIT); and 2) a consumption tax coupled with a tax on financial income, referred to as the growth and investment tax (GIT). The GIT is not a pure consumption tax plan because it also includes a 15% tax on financial income (interest, dividends, and capital gains); rather it is a consumption tax, with a wage credit and an add-on tax on passive capital income at the individual level. The section on economic effects considers the effects on the allocation of capital, overall effects on growth, potential consequences of the international tax rules, and effects of other tax incentives, including health care, charitable contributions, and spending by state and local governments. ( Note: deductions for state and local taxes would be eliminated). Simplify employer savings plans. Tax burdens on capital income would also be affected by the preferred savings accounts. Provide a new, simplified depreciation system. The VAT would be similar to the PCT but would not allow a deduction at the firm level for wages and would not tax wages to individuals, and therefore would eliminate all of the features of the individual tax including the mortgage credit and the deduction for charitable contributions for that part of the tax. This baseline differs from the baseline used by the Congressional Budget Office (CBO), which simply relies on the current tax law, and thus assumes that temporary provisions, including the 2001-2003 tax cuts, will expire. Such a loss could be significant. Simplification

Both proposals contain many elements that would simplify tax compliance. The proposal, on its surface, also eliminates some itemized deductions that are difficult to dispense with, such as the casualty loss deduction, the deduction for extraordinary medical costs, and the deduction for miscellaneous items such as employee and investment costs. The effects will likely be larger than the effects in the SIT, which are already significant. One might propose to allocate the tax according to consumption, along with a credit for wage tax reductions due to graduated rates. These effective tax rates can differ substantially from average tax rates in the economy because the timing of deductions has a different (and in the long run, more powerful) effect on tax burdens on new investment than is reflected in average tax rate measures. In addition, for the income tax plan, the exemption of dividends and most of capital gains should allow more interest-bearing assets to be placed into exempt accounts. For current law, the calculations assume that small non-corporate businesses would be able to expense investments in equipment under current provisions of the tax law that allow expensing with a ceiling. The panel's proposal would make changes in all of these areas. The 1% floor would contribute to target efficiency, which focuses on how much charitable contributions are increased for each dollar of revenue loss. In the case of the income tax plan (SIT), these transition issues are likely to be most problematic for moderately high- and higher-income homeowners who have purchased homes with values high relative to income, and will lose part of the value of their mortgage deductions and their deduction for property taxes. There would be a four-year phaseout of depreciation deductions and interest deductions—80% in the first year, 60% in the second, 40% in the third, and 20% in the fourth. But inventories would bear virtually the full loss, and the loss is substantial. There are some important simplifications in the SIT, especially for businesses and high-income individuals, although lower-income taxpayers may find their affairs more complicated. There are also some transition problems, but they are small compared to the consumption proposal.
In November 2005, the President's Advisory Panel on Tax Reform presented two potential reform proposals: a simplified income tax (SIT) and a direct consumption tax proposal (the growth and investment tax, or GIT). Both proposals would eliminate itemized deductions while allowing, for all taxpayers, a credit for mortgage interest deductions and deductions for charitable contributions and health insurance. Both proposals substitute credits for personal exemptions and standard deductions. Both would allow greatly expanded tax-preferred savings plans. SIT would eliminate taxes on dividends and most capital gains from corporate stock, simplify depreciation and allow expensing (deducting costs immediately) for small business, and alter the international tax regime. GIT, as a consumption tax, would allow expensing of all investment. GIT also includes a tax on passive capital income (dividends, interest, and capital gains).
Both proposals are stated to be both revenue and distributionally neutral. Because the panel uses a baseline assuming the 2001 tax cuts are permanent, both would lose revenue compared to the Congressional Budget Office (CBO) official baseline, which has the tax cuts expire as provided by current law. An additional revenue loss is expected in the long run because of the proposals for tax-deferred savings plans. These measures also cause the income tax proposal to be slightly less progressive than current law. The consumption tax proposal is likely to be significantly less progressive than current law.
The plans would simplify tax filing for higher-income individuals and the self employed; lower-income taxpayers could, in some cases, have more complicated tax returns. Much simplification rests on the assumption that many minor provisions, not actually discussed, will be eliminated, an unlikely event in the case of certain provisions such as casualty losses and catastrophic medical expenses.
Both plans would likely increase efficiency in the allocation of capital, but these effects would be quite small for SIT and lessened for GIT due to the tax on financial income. The SIT may magnify distortions in the allocation of capital around the world. The effects on overall economic growth would be negligible for SIT because of the limited change in marginal tax rates. Although there would be a substantial reduction in effective tax rates on new investment under GIT, the growth effects for this plan are uncertain and may be quite modest. In any case, they are not large enough to materially affect the budget outlook. The effects on economic efficiency other than in the allocation of capital are mixed: a floor under charitable deductions along with expansion to non-itemizers would contribute to efficiency, but the effects on health markets are unclear.
Transition problems present difficulties; the main issue with the SIT would probably be in the loss of deductions for homeowners with large houses and mortgages. These transition problems in the SIT are minor, however, in comparison with the significant problems in the GIT arising from the loss of depreciation deductions, interest deductions, and deductions for the recovery of inventory. This report will not be updated.