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Do You Feel Subsidized?

The South Carolina Supreme Court will shortly hear a case challenging the constitutionality of state sales tax exemptions. This case, filed on behalf of the plaintiff by Dick Harpootlian, asserts that sales tax exemptions violate the equal protection clause of the constitution. An affirmative ruling by the court would increase the tax burden for all South Carolinians and challenge the authority of the General Assembly to set tax policy for the state.

Proponents of big government have long despised tax deductions, exemptions and similar provisions. They are not afraid to use the courts to challenge those who benefit from them. Many people in Greenville will remember the legal battle that Bob Jones University fought against the federal government in the 1980s. This battle started when the Internal Revenue Service revoked their tax exempt status as a charitable organization.

The IRS took the position that any deductable donation made to the University was a “subsidy” by the federal government. They further argued that since the government was “subsidizing” the University, the government had a right to dictate the University’s internal policies. The University sued to have their exempt-status reinstated and lost.

BJU lost because the federal government broadly defines tax provisions for deductions, exemptions, incentives and credits as “tax expenditures” by the government. In other words, the government does not view tax deductions as you keeping your income. They view tax deductions as the government giving you some of their money.

This illogical tax expenditure theory was created by Stanley Surrey, the Assistant Secretary of the Treasury for Taxation in the Johnson Administration. He believed that government should not grant any deductions and similar provisions because they reduced the amount of money raked into the Treasury which could then be spent on liberal government programs to further Johnson’s Great Society.

Surrey wanted to reform the tax code to make it simple and efficient. In his mind, simple and efficient meant that government could redistribute money, even to charities, better than private citizens who could not be trusted to support the right charities with their donations. His theory became reality when the Congressional Budget Office began tracking tax expenditures in 1974. This reality was shown to be coercive when BJU lost their tax exempt status.

This all-money-is-government-money theory of tax expenditure was concocted to aid liberals in their efforts to substantially expand government programs. In response, conservatives defended the importance of and expanded the number of deductions and similar provisions in order to allow taxpayers, both individual and corporate, to rightfully keep their money – until recently.

In a strange turn of events, Rep. Paul Ryan, a conservative Republican who chairs the House Budget Committee, declared earlier this year that he wanted to eliminate the largest tax expenditures in the name of tax reform. He asserted that they “diverted economic resources to less productive uses” thereby echoing the words of Stanley Surrey. According to the Congressional Joint Tax Committee, some of those targeted for elimination would be the deductions for retirement plan contributions, employer contributions for health insurance and mortgage interest.

Compare Rep. Ryan’s targeting of the health insurance deduction to the comments by Sen. Robert Packwood on the same subject back in 1983. Sen. Packwood, the Republican who chaired the Senate Finance Committee at that time said that the only reason that America had not adopted nationalized health care was because of the employer health insurance deduction.

Sen. Pat Toomey, a conservative Republican serving on the 12 member debt super-committee, recently targeted deductions in his deficit reduction plan. His plan would eliminate most deductions in exchange for lowering the tax rates for all families – a noble goal if the tax rates stay lowered. If a future Congress decides to raise the rates, then his plan has removed en masse a multitude of deductions that were designed to soften the impact of tax increases.

As a conservative involved with tax reform on the state level, I am confounded by conservative groups who have bought into Surrey’s assertion that deductions and incentives are government subsidies. When they use the terms “subsidy” to criticize deductions for individual taxpayers and “corporate welfare” to criticize incentives for business, they are basing their criticism on a very liberal idea. They ignore that ideas have consequences, especially when the idea expands government control over taxpayer money as was the case with BJU.

Certainly, we need tax reform. Elected officials have allowed our revenue code, both federal and state, to become confusing and primed for abuse. The revenue code should be transparent, relevant and efficient.

However, we must remember that, once granted, government never relinquishes its power to tax. Deductions and similar provisions dilute this power. Each of these provisions represents a hard fought battle in controlling the expansion of government. We would do well to be extremely cautious of those plans that eliminate them all in the name of tax reform.