Q & A with Eric Solomon, assistant secretary for tax policy with Department of the Treasury

Last week, Rep. Charles Rangel (D-N.Y.), the House’s top tax writer, introduced a sweeping tax overhaul that would permanently repeal the Alternative Minimum Tax (AMT) by making up the revenues through a surtax on higher-income taxpayers. Congress enacted the AMT in 1969 to ensure that the wealthy paid enough in taxes, but it never indexed the tax to inflation. As a result, the AMT is set to engulf millions of middle-class taxpayers unless it is patched or repealed. Rangel’s proposal would also do away with various business tax breaks and preferences to pay for reducing the corporate tax rate from 35 percent to 30.5 percent.

Treasury Secretary Henry Paulson swiftly denounced the plan, warning that it would “hinder America’s ability to compete in the global economy.” The criticism surprised many in Washington, because White House budgets assume that the AMT will either be allowed to explode or Congress will find a revenue-neutral fix to the problem. Paulson has also warned about the impact of the business tax system on the global competitiveness of U.S. companies. A recent Treasury study, commissioned by the secretary, suggested that abolishing special tax breaks would generate enough revenue to lower the corporate tax rate to 27 percent.

Eric Solomon, who rejoined the Treasury last year to become Paulson’s top adviser on tax matters, told The Hill that Paulson has never advocated any particular approach to reforming the business tax system.

Q: A lot of people in Washington have the impression that Paulson is looking for a deal on the corporate tax rate, such as closely loopholes in exchange for a lower rate. Can you explain why we are hearing fairly blanket criticism from the Treasury secretary of the Rangel plan?

A: The secretary did not advocate any particular proposal, so to suggest that the secretary advocated a particular proposal is not correct. The message here is that we need to compete in a world marketplace, and we have to take steps to consider how our tax system is part of that competition and how our tax system can be improved to help American companies compete.

Q: I think it is clear to people that he is not advocating a particular proposal; he did not come up with his own plan. But many people think he is advocating the same base-broadening approach that was used in the 1986 tax reform and that Rangel is trying to emulate now. Is that not the case?

A: He is advocating a dialogue about improving the competitiveness of U.S. businesses. Certainly one of the ideas one would consider first is lowering the rate. But lowering the rate might be only one thing you would consider.

Q: Given that White House budgets appear to assume a revenue-neutral AMT fix, why is Paulson criticizing the Rangel proposal as a tax hike?

A:  I think the secretary’s comments really focus on the business side. He appreciates that Chairman Rangel wants to focus on our business tax system, and I think the secretary shares that interest. However, the secretary and the administration want to be clear that anything we do — or anything that the Congress does — with respect to changing our business tax system helps American companies compete in the global marketplace. And that is an area where I’m sure there will be continuing discussion between the secretary and Chairman Rangel.

Q: Chairman Rangel says his legislation would make the tax code fairer. How would you rate the tax code on fairness and equity?

A: Those are difficult, judgmental words. I would merely say that the current tax code is very progressive and that higher-income taxpayers pay a very high proportion of income taxes.

Q: Secretary Paulson has criticized the provision in Rangel’s bill that would raise taxes on fund managers’ carried interest, which is currently taxed at the capital gains rate of 15 percent. Do you believe it should be taxed that way, and why?

A: Carried interest really is an allocation of partnership items, which has been part of our partnership tax system for over 50 years. This system has worked well for entrepreneurs, for capital providers and for those with know-how for a long time.

Q: Have the people receiving the carried interest put significant capital at risk to get the lower tax rate?

A:  That’s not the issue. The issue is how our partnership system works, and our partnership system allows capital providers and people with know-how to pool their money and ideas, create something profitable and share the proceeds. Compare a sole proprietor who starts a business and through his labor makes the business grow. At some later time, that entrepreneur sells the business. Even though that person’s know-how and efforts have caused the business to appreciate, that person is entitled to capital gains. So it is very important to note that there are many places in our tax system where know-how and personal efforts contribute to capital gain.

Q: Secretary Paulson has warned of significant problems at the IRS if Congress does not move quickly to pass a one-year AMT patch. Now that Rangel has acted, are you confident that Congress is on track to get this done?

A: We certainly hope that the AMT will be patched and patched quickly. The IRS sends the forms to the printers around Nov. 7, so delays in patching the AMT will have important consequences for the filing season. If the AMT is not patched, then 25 million taxpayers will be affected. In addition, if there is a delay in patching the AMT, perhaps up to an additional 25 million taxpayers will have a delay in the processing of their returns.

Q: Does the Bush administration advocate a permanent fix to the AMT, that is revenue-neutral?

A: We would have to work with Congress to decide what the appropriate long-term solution would be. The AMT’s reach has extended greatly over the years and there are many people who would say that the revenues from the AMT that are anticipated for the future were never anticipated when it was first enacted.