Federal Tax Reform: is there change on the horizon?

• Position: Cover story

The President's Advisory Panel on Federal Tax Reform recommended expansive changes to the federal tax system, changes that if adopted entirely would affect every taxpayer. What do these recommendations mean? Catalyst editorial staff gathered a panel of tax experts to discuss the vitality and implications of these proposals.

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In his 2005 State of the Union speech, President Bush announced an ambitious plan to reform the federal tax system. The first step was commissioning a nine-member bipartisan advisory panel of former politicians, government officials and academics to evaluate the current system and recommend change.

In November 2005, the panel presented two options to the President. Both plans would completely repeal both the individual and corporate Alternative Minimum Tax (AMT), which has been increasingly penalizing middle-class taxpayers since its inception in 1969.

Another major proposed change is limiting the home mortgage interest deduction, currently at a maximum $1.1 million, by replacing it with a tax credit and by capping the size of the mortgages that would qualify. State taxes would also no longer be deductible under both plans, which is creating a stir in high-tax states, such as New York and California. In addition, both plans would limit the number of tax brackets to either three or four, compared to the current six.

The following experts were gathered to discuss the significance and potential impact of these proposals:

* Matthew F. Kadish, JD, LLM, partner in the Cleveland law firm of Kadish, Hinkel & Weibel and vice president of legislation of the Small Business Council of America

* Timothy Michaels, CPA, partner with Deloitte and Touche, LLP, Columbus

* E. Lynn Nichols, CPA, of New Castle, Penn., a sole practitioner providing tax consulting services and founder of Nichols Education Corporation.

As these proposals pass through the political meat grinder, what aspects of the Advisory Panel's recommendations stand the best chance of becoming reality?

Kadish: A year ago we listened to the President's State of the Union speech, when he had a lot of political capital and was going to make changes happen. After the 2006 State of the Union speech, it is clear he is going for much smaller victories. The tax reform plan he touted in 2005 has taken a back seat in terms of pure legislative agenda. It seems unlikely that we are in danger of any of this passing in 2006.

Michaels: I agree. He had to get something out on the table in response to what he said last year, so he brought this group together to evaluate our current tax system and give a report. The chances of this getting any traction right now, in light of everything else going on, is slim to none.

Nichols: If anything has a chance of passing it would be the repeal of the AMT.

Kadish: Repeal or patch?

Nichols: The patch is likely to pass. The repeal will not pass. It is simply too expensive without being packaged with other reforms. What would make the most sense is to increase the exemption so most ordinary taxpayers avoid it.

Kadish: I think a lot is going to happen in the next year or two. Congress will probably devote some real time to hearings on the Hill to discuss the Reform Panel's report, which is significant because they can only have so many hearings. The supporters are trying to build a grassroots movement to see whether the public is willing to be educated and responsive on the issues.

Michaels: Do you see anything passing in 2006, such as any retroactive adjustments to the AMT?

Kadish: The House wants the capital gains extended. The Senate wants the AMT patch. There isn't enough money or budget reconciliation to pay for both, unless they do a mini- or super-short...