Business Seen Vulnerable in Eventual U.S. Tax Revamp

Tax reform could spell the demise of corporate tax breaks such as the domestic production credit, but don't hold your breath waiting for it, says Scott Hodge, a 20-year veteran of the Washington tax wars.

Comprehensive tax reform may not come until 2013 and when it does, the handful of corporate tax breaks to be curbed could include the credit which rewards companies for making things in the United States rather than abroad.

"That's probably the most likely to be rolled into a larger package," Hodge told Reuters in an interview on Tuesday. He said the research and development tax credit might also face changes under a broad reform.

From his perch as president of the Tax Foundation, a nonpartisan group with a decidedly pro-business outlook, Hodge pushes for lower and more predictable taxes, generating a stream of research reports and making media appearances.

The urgent debt ceiling talks under way at the White House this week are unlikely to produce substantive changes in the tax code, he said.

"We'll maybe see some nibbling around the edges" as Republicans and Democrats seek a compromise on raising the U.S. borrowing limit by an August 2 deadline, he said.

"But I don't think we'll see anything substantive ... Not the kind of big reforms that were in, say, the Bowles-Simpson report or the Volcker Commission report," both released last year with recommendations for overhauling the tax code.

Hodge's tax policy views mesh neatly with most Republican talking points, but not uniformly. He spent a decade at the Heritage Foundation, a conservative think tank, before joining the Tax Foundation. Even left-wing tax activists who have criticized him in the past acknowledge his savvy.

"He's a smart, hard-working guy," said Brad DeLong, an economics professor at the University of California-Berkeley.

The administration has been promising to issue a report this year laying out big ideas on tax reform, but the delivery date for it is unclear and the debt ceiling talks have drowned out all other tax discussion for now.

CARRIED INTEREST 'HARD TO DEFEND'

Hodge predicted that carried interest taxation "might be thrown into the mix" of a broad effort to rewrite the tax code for the first time in 25 years.

Allowing private equity and hedge fund managers to go on paying the lower capital gains tax rate on their gains rather than the higher income tax rate is "pretty hard to defend," he said.

Offshore income deferral, a key issue for multinationals, probably will not be in the mix, Hodge said. "That will have to be part of a much larger debate about the treatment of offshore income and whether we move to a territorial system."

The Tax Foundation backs slashing the corporate income tax rate and replacing the present U.S. system for taxing profits that companies earn abroad with a territorial system that exempts most foreign profits from U.S. tax.

Left-leaning tax activists criticize this approach, saying it would encourage even more offshore tax avoidance by companies that already defer paying taxes on overseas profits by not repatriating them, as the present system allows.

Hodge replies that a cut in the corporate income tax rate would prevent that by leveling rates from country to country.

More immediately, Hodge said he was pessimistic about the outcome of the debt ceiling discussions. "We don't seem to be moving this debate along ... Each side seems to be throwing up trial balloons that get shot down by their own parties.

"So you don't see the kind of progress toward an agreement that you would expect at this 11th hour, but maybe we're not in the 11th hour yet."