My tax professor at Georgetown Law School, the brilliant and charismatic Martin Ginsburg, used to pose this question to students as we discussed tax issues: “If you were King, what would you do?” He wanted people to think about the concepts underlying the tax code and whether they agreed or disagreed with those concepts, rather than just memorizing the then-prevailing treatment of, say, the capital gains tax or “hobby losses.” Understanding the policy on which the tax provisions were based was as important as being able to apply the provisions themselves.
President Obama and Congress have suggested some changes to the tax code, and I think it is important to keep the policy issues in mind as our government considers such changes. Almost since its inception, the tax code has been used as much as a tool to alter individual behavior as a source of revenue. The whole point of allowing people to deduct charitable contributions, obviously, is to give people an incentive to make charitable contributions. The home mortgage deduction, on the other hand, is designed to encourage people to buy homes. No doubt the homebuilding industry lobbied for the home mortgage deduction and will lobby equally hard to retain the deduction in its current form. Over the years, there have been many other deductions or tax credits that have been adopted that were specifically designed to encourage specific types of behavior by taxpayers.
For this reason, the arguments that the current proposals about changing charitable contribution deductions and home mortgage deductions won’t have a significant impact on the underlying conduct are disingenuous, and in fact are contrary to the arguments that led to the adoption of those deductions in the first place. If policymakers honestly believe that capping charitable contribution deductions at 28 percent — or some other level below the top tax rate — won’t affect the amounts of charitable contributions people make, they are kidding themselves. Many high-income taxpayers employ sophisticated accountants and tax planners, and they will carefully calculate the impact of any changes that are adopted and then adjust their contributions accordingly. Similarly, if limits are placed on home mortgage deductions, people in the market for high-end homes will factor that limit into their calculations on what they can and cannot afford to pay. Does anyone seriously question whether significantly reducing the home mortgage deduction will have a profound impact on certain segments of the housing market and home values within those segments?
Professor Ginsburg suggested that using the tax code as a behavior modification tool was a very inefficient and indirect approach, and I firmly believe he was right. One problem with introducing such policy considerations into the tax code is that, once they have been incorporated, they can be difficult to eliminate. You can argue that the government should not be in the business of encouraging people to be more charitable, and you can point to the many troubling issues that have arisen because the charitable contribution deduction exists. Is a particular church a real church, or a sham designed to give people a tax dodge? If a church takes a particular position on a political issue, should it lose its 501(c)(3) status? Entire cottage industries have developed to address these issues. And, with respect to the home mortgage deduction, there is a fairness issue in tinkering with the deduction at this late date. If someone bought their home in reliance on the continuation of a deduction that has been part of the tax code for decades, is it fair to change the rules of the game after they have made that commitment?
If I were King, I would strongly consider stripping these behavioral modification provisions out of the tax code. But, we have no King, only legislative and executive branches that must deal in the messy world of politics. Because of that, I suspect that we won’t see significant changes in the charitable contribution and home mortgage deductions, and that instead we will see members of Congress continue to use the tax code as a blunt instrument employed to achieve political aims.