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	[House Hearing, 115 Congress]
	[From the U.S. Government Publishing Office]


	START-UPS STALLING? THE TAX CODE AS A BARRIER TO ENTREPRENEURSHIP

	=======================================================================

	HEARING

	BEFORE THE

	COMMITTEE ON SMALL BUSINESS
	UNITED STATES
	HOUSE OF REPRESENTATIVES

	ONE HUNDRED FIFTEENTH CONGRESS

	FIRST SESSION

	__________

	HEARING HELD
	FEBRUARY 15, 2017

	__________

	[GRAPHIC NOT AVAILABLE IN TIFF FORMAT]


	Small Business Committee Document Number 115-003
	Available via the GPO Website: www.fdsys.gov


	__________


	U.S. GOVERNMENT PUBLISHING OFFICE
	24-070 PDF WASHINGTON : 2017

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	HOUSE COMMITTEE ON SMALL BUSINESS

	STEVE CHABOT, Ohio, Chairman
	STEVE KING, Iowa
	BLAINE LUETKEMEYER, Missouri
	DAVE BRAT, Virginia
	AUMUA AMATA COLEMAN RADEWAGEN, American Samoa
	STEVE KNIGHT, California
	TRENT KELLY, Mississippi
	ROD BLUM, Iowa
	JAMES COMER, Kentucky
	JENNIFFER GONZALEZ-COLON, Puerto Rico
	DON BACON, Nebraska
	BRIAN FITZPATRICK, Pennsylvania
	ROGER MARSHALL, Kansas
	VACANT
	NYDIA VELAZQUEZ, New York, Ranking Member
	DWIGHT EVANS, Pennsylvania
	STEPHANIE MURPHY, Florida
	AL LAWSON, JR., Florida
	YVETTE CLARK, New York
	JUDY CHU, California
	ALMA ADAMS, North Carolina
	ADRIANO ESPAILLAT, New York
	BRAD SCHNEIDER, Illinois
	VACANT

	Kevin Fitzpatrick, Staff Director
	Jan Oliver, Deputy Staff Director and Chief Counsel
	Adam Minehardt, Minority Staff Director

	C O N T E N T S

	OPENING STATEMENTS

	Page
	Hon. Steve Chabot................................................ 1
	Hon. Nydia Velazquez............................................. 2

	WITNESSES

	Mr. Kyle Pomerleau, Director of Federal Projects, Tax Foundation,
	Washington, DC................................................. 4
	Mr. David Burton, Senior Fellow, Economic Policy, Institute for
	Economic Freedom and Opportunity, The Heritage Foundation,
	Washington, DC................................................. 5
	Mr. Tim Reynolds, President, Tribute Inc., Hudson, OH, testifying
	on behalf of the National Small Business Association (NSBA).... 7
	Troy K. Lewis, CPA, CGMA, Tax Executive Committee Immediate Past
	Chair, American Institute of CPAs, Provo, UT................... 9

	APPENDIX

	Prepared Statements:
	Mr. Kyle Pomerleau, Director of Federal Projects, Tax
	Foundation, Washington, DC................................. 31
	Mr. David Burton, Senior Fellow, Economic Policy, Institute
	for Economic Freedom and Opportunity, The Heritage
	Foundation, Washington, DC................................. 37
	Mr. Tim Reynolds, President, Tribute Inc., Hudson, OH,
	testifying on behalf of the National Small Business
	Association (NSBA)......................................... 49
	Troy K. Lewis, CPA, CGMA, Tax Executive Committee Immediate
	Past Chair, American Institute of CPAs, Provo, UT.......... 78
	Questions and Answers for the Record:
	Questions and Answers from Representative Radewagen to David
	Burton..................................................... 96
	Questions and Answers from Representative Radewagen to Kyle
	Pomerleau.................................................. 97
	Additional Material for the Record:
	The Like-Kind Exchange Stakeholder Coalition................. 100
	Statement for the Record from Karen Kerrigan, President &
	CEO, Small Business & Entrepreneurship Council (SBE
	Council)................................................... 104


	START-UPS STALLING? THE TAX CODE AS A BARRIER TO ENTREPRENEURSHIP

	----------


	WEDNESDAY, FEBRUARY 15, 2017

	House of Representatives,
	Committee on Small Business,
	Washington, DC.
	The Committee met, pursuant to call, at 11:00 a.m., in Room
	2360, Rayburn House Office Building. Hon. Steve Chabot
	[chairman of the Committee] presiding.
	Present: Representatives Chabot, Luetkemeyer, Brat,
	Radewagen, Kelly, Blum, Schneider, Bacon, Fitzpatrick,
	Velazquez, Evans, Murphy, Lawson, Chu, Adams, Espaillat, and
	Gonzalez-Colon.
	Chairman CHABOT. Good morning. I call the Committee to
	order.
	We want to thank everyone for being here. A special thanks
	to our witnesses who have taken time away from their busy
	schedules to be here with us today; we greatly appreciate that.
	We will introduce them here very shortly.
	In the coming weeks and months, Congress will have a once-
	in-a-generation opportunity to pass comprehensive tax reform,
	the likes of which we have not seen since Ronald Reagan's
	historic tax reforms back in the 1980s.
	While economic indicators remain mixed at best, there is no
	denying that new business creation remains in a long-term
	decline. We hear it from our constituents back home and from
	the witnesses who come to this hearing room to testify every
	week.
	The current Tax Code discourages entrepreneurs from taking
	the kinds of risks they once did, and this will have serious
	economic consequences, both in the short-term and in the long-
	term.
	Entrepreneurs face any number of challenges as they try to
	start a new business, but a recent National Small Business
	Association, NSBA, survey found that tax regulatory compliance
	is the number one most burdensome area.
	While there are many reasons for this aversion, including
	Obamacare and overregulation, today's hearing will focus on
	what is perhaps the greatest barrier to entrepreneurship, our
	broken Tax Code.
	For instance, there are a number of specific provisions in
	the current Tax Code that directly penalize the risk-taking
	entrepreneur. In my view, these provisions prioritize
	government growth through revenue collection over economic
	growth, and that is exactly the wrong approach. We need to keep
	the bigger picture in mind.
	America's entrepreneurs are crying out for tax relief and
	this Committee is listening to them. They want a Tax Code that
	is simpler, fairer, and flatter, so they can start and grow
	their businesses and turn their dreams into reality. As we work
	closely with Chairman Kevin Brady and our colleagues on the
	Ways and Means Committee, this Committee will ensure that small
	business and entrepreneurship is front and center for any tax
	reform effort this time around.
	The bottom line is that our current tax system is working
	against entrepreneurs too often when it should be working for
	them. We have to do better. And fortunately, with A Better Way
	agenda as our roadmap, we will do better.
	Today we will examine specific barriers in the Tax Code to
	entrepreneurship. We will also explore some possible solutions
	to tear down those barriers.
	I am looking forward to hearing from our witnesses here
	today, and I would now like to yield to the ranking member, Ms.
	Velazquez, for her opening statement.
	Ms. VELAZQUEZ. Thank you, Mr. Chairman.
	Today, one in ten Americans are self-employed. As we speak,
	another seven percent of American workers are actively trying
	to start a business. These trailblazers provide significant
	benefits to the economy. They take risks to start new
	businesses, bring new products to market, and ultimately,
	create new jobs, or even industries. As a matter of policy, we
	should be encouraging this type of risk-taking. Unfortunately,
	outdated and increasingly complex tax provisions create
	obstacles to success rather than a means of stimulating growth
	and job creation. Today's tax code contains thousands of
	provisions from the ordinary, like deductions for office
	supplies to tax credits to advance public policy goals, like
	the use of renewable fuels. This level of complexity makes
	complying with the law difficult and expensive, a burden that
	hits America's entrepreneurs hardest.
	This committee is well aware of the challenges created by
	the Internal Revenue Code and the major complications it has on
	business planning. Unlike their larger counterparts, many small
	firms cannot afford to spend significant resources on tax
	experts to assist them. Instead, many entrepreneurs spend
	countless hours trying to comply with an arcane tax code
	drawing them away from their usual business operations. These
	difficulties bring us to something that everyone on this
	committee likely agrees upon: importance and value in reforming
	our tax code. Of course, doing so will be a significant
	undertaking and the devil will be in the details.
	I agree with the chairman that in any comprehensive tax
	reform, small businesses must be front and center and not an
	afterthought. One important detail is making sure corporate tax
	reform also includes changes for our nation's 28 million small
	businesses. Successful tax reform that simplifies the code will
	give small businesses greater certainty and allow them to spend
	their time and resources on what they do best: launching new
	products and creating new jobs in their local communities.
	There have been areas of progress that suggest we may be
	able to find other common ground in reforming the tax code.
	This committee was particularly supportive of making permanent
	a number of tax extenders, such as the R&D tax credit and
	Section 179 expensing. Solidifying these changes for the long
	term gave small businesses certainty, allowing them to plan for
	the future.
	Mr. Chairman, I think all of us understand the vast array
	of tax compliance challenges facing entrepreneurs. The
	difficulty will be identifying viable solutions we can all get
	behind and hopefully implement. This will not be an easy task,
	but I do hope there is room down the road for cooperation and
	progress. I look forward to today's testimony, and I thank all
	the witnesses for the time that you are taking away from your
	businesses or jobs to be here today. Thank you.
	Chairman CHABOT. Thank you very much. Thank you. The
	gentlelady yields back.
	If Committee members have opening statements, we would ask
	that they be submitted for the record.
	And before I introduce our distinguished panel here this
	morning, just a brief overview of our timing and our rules,
	which is the 5-minute rule. Each of you will get 5 minutes. The
	green light will be on for 4 minutes. The yellow light will
	come on to let you know you have got a minute to wrap up, and
	the red light will come on, and we would ask that you try to
	stay within that if at all possible. We will give you a little
	leeway, but not a whole lot.
	So again, thank you for being here this morning. Our first
	witness is going to be Kyle--is it Pomerleau? Pomerleau, okay,
	thank you, director of Federal Projects for the Tax Foundation
	in Washington, D.C. In that capacity, he leads the tax modeling
	team, oversees the center's research, and researches and writes
	on a variety of Federal tax issues. His work has been cited in
	most major media outlets throughout the country.
	Our second witness will be David Burton, senior fellow in
	Economic Policy at The Heritage Foundation. He focuses on a
	wide swath of economic issues, including tax, securities,
	entrepreneurship, financial privacy, and regulatory and
	administrative issues. Prior to joining The Heritage
	Foundation, Mr. Burton's long career includes serving as
	general counsel to the National Small Business Association; CFO
	and general counsel to a startup, Alliance for Retirement
	Prosperity; partner in the Argus Group; vice president and
	general counsel to a multinational manufacturer; and manager of
	the U.S. Chamber of Commerce's Tax Policy Center.
	Our third witness today is Tim Reynolds, president of
	Tribute, Inc., a small software company located in Hudson,
	Ohio. Prior to purchasing Tribute in 1994, Mr. Reynolds held a
	variety of management positions with British Petroleum and BP
	America. He has also held a number of board and leadership
	positions in small business advocacy and economic development
	organizations, including previously chairing the Board of the
	National Small Business Association, NSBA. He is testifying
	today on behalf of the NSBA.
	We welcome all three of you, and I would now like to yield
	to the ranking member for the purpose of introducing our final
	witness.
	Ms. VELAZQUEZ. Thank you, Mr. Chairman.
	I am pleased to welcome Troy Lewis. Mr. Lewis is an
	associate teaching professor at Brigham Young University, where
	he received both a bachelor's and a master's degree in
	accounting. He is also a sole tax practitioner and the
	immediate past chair of the AICPA Tax Executive Committee. He
	is testifying today on behalf of AICPA. Welcome, Mr. Lewis.
	Chairman CHABOT. Thank you very much.
	Mr. Pomerleau, you are recognized for 5 minutes.

	STATEMENTS OF KYLE POMERLEAU, DIRECTOR OF FEDERAL PROJECTS, TAX
	FOUNDATION; DAVID BURTON, SENIOR FELLOW, ECONOMIC POLICY,
	INSTITUTE FOR ECONOMIC FREEDOM AND OPPORTUNITY, THE HERITAGE
	FOUNDATION; TIM REYNOLDS, PRESIDENT, TRIBUTE, INC.; TROY K.
	LEWIS, CPA, CGMA, TAX EXECUTIVE COMMITTEE IMMEDIATE PAST CHAIR,
	AMERICAN INSTITUTE OF CPAS

	STATEMENT OF KYLE POMERLEAU

	Mr. POMERLEAU. Thank you, Chairman Chabot and Ranking
	Member Velazquez, for the opportunity to speak about the U.S.
	tax system and entrepreneurship.
	There are millions of entrepreneurs in the United States,
	spread across nearly every major industry. While every
	entrepreneur has a different business model and unique
	concerns, there are a few key characteristics that apply to
	many entrepreneurs throughout the country.
	Entrepreneurs tend to run losses for some time before
	turning a profit, and some never turn a profit at all. As a
	result, entrepreneurial ventures tend to be especially risky
	investments for outside investors.
	If they do develop a successful business model,
	entrepreneurs often seek to rapidly expand their operations and
	scale.
	Ideally, the U.S. Federal Tax Code would be neutral with
	regard to each of these characteristics. However, this is not
	the case under current law. I am going to outline four ways in
	which the Tax Code discriminates against entrepreneurial
	investment.
	First, the tax treatment of business losses. It is often
	the case that entrepreneurs run losses for several years before
	turning a profit. Unfortunately, the current Federal Tax Code
	is particularly detrimental to businesses whose earnings fall
	into this pattern.
	The reason for this is the fundamental asymmetry in the
	U.S. Tax Code between the tax treatment of business profits and
	losses. A business that makes a profit is subject to an
	immediate tax liability in the same year the profit is earned;
	however, a business that turns a loss is not always entitled to
	an immediate tax benefit. This is because businesses whose
	losses exceed income are required to carry over those losses
	into future tax years when they finally have income.
	Importantly, the longer a business has to wait to deduct
	its net operating losses, the smaller a tax benefit the
	business receives.
	As a result, the Tax Code is inherently disadvantageous to
	businesses that run losses for many years before turning a
	profit.
	Second, the tax treatment of capital losses. Entrepreneurs
	often rely on outside investors to provide financial capital
	for their businesses. Investments in entrepreneurial ventures
	tend to be risky, and investors may experience a long string of
	capital losses before finding an investment that produces a
	substantial capital gain. And just like business losses,
	capital losses are not always immediately deductible, creating
	a situation that penalizes risky investment.
	In general, taxpayers are only allowed to deduct their
	capital losses in any given year up to the extent of their
	total capital gains. Individual taxpayers are also allowed to
	deduct up to $3,000 in capital losses beyond those losses.
	Otherwise, they have to carry forward the remaining into future
	years where they would be deducted against future capital
	gains.
	Here again, the Tax Code contains an asymmetry. Capital
	gains are subject to an immediate tax liability, while losses
	do not necessarily yield an immediate tax benefit.
	Third, the tax treatment of business investment.
	Entrepreneurs that develop a successful business model are
	often interested in scaling their operations as rapidly as
	possible. However, the current U.S. Tax Code is especially
	burdensome on businesses that undertake significant capital
	investments due to the tax system's treatment of capital
	investment, or specifically, depreciation. Under current Tax
	Code, businesses are not allowed to deduct the full cost of
	capital investments in the first year. Instead, they are
	required to deduct their investment cost over long periods of
	time according to a set of over two dozen depreciation
	schedules.
	Because businesses value immediate deductions more than
	deductions in the future, the longer a business has to wait to
	write off the full cost, the less likely the business is to
	undertake a new investment.
	Fourth, high tax rates on business income. All three of the
	previous distortions in the Tax Code are exacerbated by the
	high marginal tax rates on businesses in the United States
	today.
	Entrepreneurs that choose to set up passthrough businesses,
	such as S corporations, partnerships, face a top Federal tax
	rate of 44.6 percent, and the rate can exceed 50 percent when
	State and local income taxes are taken into account.
	Other entrepreneurs may choose to organize their businesses
	as C corporations. These businesses are subject to two layers
	of tax. First, a 35 percent corporate tax rate, which is the
	highest in the developed world, followed by a 25 percent
	capital gains and dividends tax.
	In conclusion, the U.S. code tends to impose higher burdens
	on businesses that run losses for many years, businesses that
	are risky investments, and businesses undergoing rapid
	expansion, all of which are typical characteristics of
	entrepreneurial ventures.
	Lawmakers interested in removing these barriers to
	entrepreneurship should consider ways to mitigate these
	distortions in the U.S. Tax Code. Thank you.
	Chairman CHABOT. Thank you very much.
	Mr. Burton, you are recognized for 5 minutes. If you could
	turn that mic on. That is all right.

	STATEMENT OF DAVID BURTON

	Mr. BURTON. Thank you, Mr. Chairman--that's better--Ranking
	Member Velazquez, and members of the Committee, for the
	opportunity to be here this morning.
	The views I express in this testimony are my own and do not
	necessarily reflect the institutional position of The Heritage
	Foundation.
	Entrepreneurship matters. It fosters discovery, innovation,
	and job creation. Entrepreneurs develop new and less expensive
	products that improve consumer well-being and account for most
	of the job creation in the United States. Moreover, the vast
	majority of economic gains from the innovation that
	entrepreneurship creates accrues to the public at large rather
	than entrepreneurs.
	Most indicia of entrepreneurial health indicate that
	entrepreneurship is in decline. Accordingly, job creation,
	productivity improvements, and welfare enhancing innovation
	have slowed and the tax system is a major contributing factor.
	It is a factor both because of the direct impact of the tax
	system on small and startup firms, but also because of the
	adverse impact on the economy overall. It imposes high taxes on
	risk-taking, harms the international competitiveness of U.S.
	businesses, and impedes economic growth. Moreover, the tax
	system is monstrously complex, imposing inordinately high
	compliance costs on small and startup firms.
	Among the four major sources of complexity in the tax law
	are the Capital Cost Recovery System; inventory accounting;
	employee benefit taxation, particularly the rules governing
	retirement savings or qualified accounts; and international
	taxation.
	Given our time constraints, I will quickly outline 12
	reforms to the current system designed to aid entrepreneurs and
	briefly discuss tax reform. Many of the incremental reforms
	proposed raise issues that need to be addressed in fundamental
	reform as well.
	First, Congress should amend Internal Revenue Code section
	179 (sic) to permanently allow capital expenses of up to $1
	million to be deducted when incurred. Expensing would simplify
	small firms' tax returns, reduce compliance costs, reduce small
	firms' cost of capital, and aid cash flow.
	Very few small employers offer retirement accounts because
	of the complexity, high compliance costs, and regulatory risk
	of doing so. It is one of the most complex areas of the tax law
	and desperately in need of simplification.
	Evidence shows that capital gains rates much above 20
	percent actually reduce Federal revenue. In addition, a high
	capital gains tax rate reduces the willingness of investors to
	invest in relatively risky startups and growth companies and
	impedes capital formation.
	Congress should also permit cash method accounting for
	firms in up to $10 million in gross receipts.
	Congress should liberalize the S corporation rules,
	particularly allowing S corporations to have more than one
	class of stock, nonresident alien shareholders, subject to 30
	percent withholding, and more than 100 shareholders. This
	latter issue is particularly important for companies that are
	trying to take advantage of the recent JOBS Act provisions
	related to crowdfunding or Regulation A where they are trying
	to use the Internet to raise small amounts of money from a
	large number of people. Unless you change those rules, they
	will not be able to take advantage of it.
	Obamacare imposes a health insurance tax that needs to be
	repealed. This is particularly focused on small companies
	rather than large companies that self-insure.
	We also need to reduce the tax rate paid on passthrough
	entities to no more than that paid by C corporations.
	We need to increase the threshold for ISOs, or incentive
	stock options.
	We need to provide full deductibility of health insurance
	purchased by the self-insured.
	We need to improve the rules and clarify the rules relating
	to whether distributions are subject to the self-employment tax
	from passthrough entities.
	We desperately need to clarify the rules governing the
	distinction between employees and independent contractors. That
	rule has been around there or that problem has been around
	since the 1970s. It has never been fixed.
	And we need to increase the unified credit amount so that
	family businesses and farms do not have to be sold to pay the
	estate and gift tax.
	Now, briefly, on fundamental tax reform, under the
	leadership of Speaker Ryan and House Ways and Means Committee
	Chairman Brady, the House Republicans put together what they
	call a blueprint. This blueprint would have an extremely
	positive impact on the economy. Our friends at the Tax
	Foundation estimate it would increase GDP by 9.1 percent over
	10 years, and I think that is about right based on other
	macroeconomic work that has been done.
	It would aid small businesses for at least two reasons.
	First, it would result in a dramatically stronger economy. And
	secondly, it would dramatically reduce the complexity and
	compliance burden experienced by small firms. And I would be
	glad to get into a lot of those details.
	Thank you very much for the opportunity to testify this
	morning.
	Chairman CHABOT. Thank you. You fit a whole lot into 5
	minutes there, so thank you very much.
	Mr. Reynolds, you are recognized for 5 minutes.

	STATEMENT OF TIM REYNOLDS

	Mr. REYNOLDS. Good morning, Chairman Chabot and Ranking
	Member Velazquez, and members of the House Small Business
	Committee. I want to thank you for inviting me to testify
	today.
	My name is Tim Reynolds. I am owner and president of
	Tribute, Inc., a software company located in Hudson, Ohio. Our
	38-employee company develops and markets accounting and
	operations software for industrial distributors.
	I am pleased to be here representing not only my company,
	but also the National Small Business Association, NSBA, where I
	currently serve as an honorary trustee and am a past chairman.
	NSBA's members consistently rank tax simplification and
	reducing the tax burden among their top issues for Congress and
	the administration address. The compliance burden on taxpayers,
	because of the complexity of our code, is truly staggering.
	My company is a Subchapter S firm. As such, the income of
	my company flows to my personal tax return. I have an MBA from
	the University of Michigan. I run a company that develops and
	sells accounting software and have been in business for more
	than 20 years. Yet, I would view it as taking an irresponsible
	risk to attempt to do my own taxes. The Code is so complicated
	that I feel certain I would inadvertently run afoul of the law.
	So I have to pay an accounting firm to do these taxes.
	In fact, according to the NSBA 2015 Small Business Taxation
	Survey, only 15 percent of small business owners handle their
	taxes internally. Eighty-five percent are forced to pay an
	external accountant or practitioner. This data point should
	send a strong message to the IRS and to Congress that the Tax
	Code is far too complex.
	I firmly believe the efforts to reduce the regulatory and
	administrative burdens on small businesses must focus on
	overall simplification, eliminating the inequities with the Tax
	Code and enhancing taxpayer education and outreach.
	My company has been audited by the IRS twice. In both
	cases, the eventual result was no errors found, and therefore,
	no penalties. In one case, the initial auditor did not
	understand the rules around deferring software sales revenue.
	After multiple appeals, we were finally referred to her
	supervisor, who agreed with our interpretation of the deferral
	rules.
	My point here is that in some cases, even the IRS cannot
	easily interpret the rules. Tax simplification would reduce not
	only the cost of compliance, but possibly also the cost of
	enforcement.
	As the tax laws have evolved over the last 30 years, it has
	become full of often contradictory rules with unclear policy
	objectives that have resulted in both unintended consequences
	and unrealized intended consequences.
	I will conclude my testimony with an example that has
	impacted my firm directly. This problem has to do with the
	impact that the alternative minimum tax has on the R&E tax
	credit. As a software development company, Tribute spends a
	significant amount of effort each year on research and
	development. As such, we are entitled to take advantage of the
	R&E tax credit, which can produce tax savings available then
	for more investment and development. However, because we are an
	S corporation, I am often subject to the alternative minimum
	tax. For years, this has prevented my company from taking the
	R&E credit. This credit is meant to encourage additional
	research and development, yet I am penalized for the way my
	business is structured.
	I should note that the PATH Act of 2015 fixed this problem,
	but only for C corps. As you may know, most small businesses,
	where much of our innovation happens, are S corps, and so the
	complicated Tax Code steps on its own foot yet again in this
	area.
	So in conclusion, the cost of compliance and the complexity
	and inconsistency within the Tax Code pose a significant and
	increasing problem for small business and our economy. A
	simpler, stable tax system dedicated to investment, savings,
	and economic growth must be put in its place.
	Again, I would like to thank Chairman Chabot, Ranking
	Member Velazquez, and members of the Small Business Committee
	for the opportunity to speak today. I would be very happy to
	answer any questions that you might have.
	Chairman CHABOT. Thank you very much.
	Mr. Lewis, you are recognized for 5 minutes.

	STATEMENT OF TROY K. LEWIS

	Mr. LEWIS. Chairman Chabot, Ranking Member Velazquez, and
	members of the House Committee on Small Business, thank you for
	the opportunity to testify.
	We applaud the leadership taken by the Committee to
	consider ways to promote entrepreneurship by addressing
	barriers in the Tax Code.
	Today I would like to highlight a few tax reform issues
	that directly impact small businesses and their owners. First,
	it is important to recognize that tax relief should not mean a
	rate reduction for C corporations only. Congress should
	continue to encourage, or at least not discourage, the
	formation of sole proprietorships and passthrough entities.
	If Congress decides to lower corporate income tax rates,
	small businesses should receive a lower tax rate as well.
	We recognize that providing a reduced rate for income to
	small businesses will place additional pressure on the need to
	distinguish between profits of the business and compensation of
	the owner-operators. We should continue to use traditional
	definitions of reasonable compensation and judicial guidance
	for this purpose.
	To minimize controversy, the IRS should take additional
	steps to improve compliance in this area. Partnerships and sole
	proprietorships should be required to charge reasonable
	compensation. However, we should not treat partners and
	proprietors as employees, but rather as owners whose labor is
	also subject to withholding. Including partners and proprietors
	in well-defined payroll rules should enhance enforcement in
	this area.
	If Congress decides to move forward with the 70/30 rule--
	and that is treating 70 percent of passthrough income as
	employment income and 30 percent as return of equity--we urge
	you to make this proposal a safe harbor and not a hard and fast
	rule. A safe harbor would promote simplicity for many
	businesses without sacrificing potential fairness for others.
	Next, we are concerned with and urge you to oppose any new
	limitations on the use of the cash method of accounting. The
	cash method is a simpler application, has fewer compliance
	costs, and does not require taxpayers to pay tax before
	receiving the income, which is why entrepreneurs often choose
	this method. Forcing them to switch to the accrual method upon
	receiving a gross receipts threshold would unnecessarily
	discourage business growth and impose financial hardship on
	cash-strapped businesses. We appreciate that Chairman Brady,
	recognizing the importance of the cash method of accounting,
	did not restrict its use in the tax reform blueprint.
	Another important issue for small businesses is their
	ability to deduct interest expense. Owners borrow to fund
	operations, working capital needs, equipment acquisition, and
	even to build credit for future loans. We should not take away
	or limit this critical deduction for many small businesses who,
	with little or no real access to equity capital, are forced to
	rely on debt financing.
	Another potential barrier for small businesses involves
	changing the rules around the taxation of compensation.
	Congress should not reduce an employee's ability to deduct the
	compensation paid to employees, whether in the form of wages or
	fringe benefits.
	At the same time, it is important to retain the employee
	fringe benefit exclusion. Changes in this area would impact the
	small business' ability to build and retain a competitive
	workforce.
	Discussions on tax reform have also included border
	adjustment provisions, suggesting an exclusion of export sales
	revenue and a disallowance of the deduction for any imported
	goods or services. These provisions would impact businesses of
	all sizes, including small business. For example, a growing
	number of small accounting firms are locally owned and operated
	but must participate in global alliance networks in order to
	serve their clients on international tax matters. In other
	words, border adjustment provisions could have a substantial
	impact even on small local service providers.
	Unfortunately, there are many other tax provisions that
	hinder small businesses. For example, net operating losses. If
	passed by Congress, a 90 percent limitation on the use of an
	NOL imposes an artificial restriction on a company's use of
	business losses, and it discriminates against companies with
	volatile income. These businesses could potentially pay more
	tax than companies with an equal amount of steady income over
	the same period of time.
	We urge you to consider increasing the startup business
	deduction to give entrepreneurs the startup support they need
	in the early years, as well as reforming laws for qualified
	retirement plans and for unfair penalty provisions.
	Congress should also repeal the AMT for both individuals
	and corporations.
	Finally, we recommend that Congress permit flowthrough
	entities to choose fiscal year ends for tax purposes, which
	would allow advisors to spread out their workloads during the
	year. This flexibility would help ease the burden on both
	taxpayers and their advisors.
	In my remaining time, I want to ask for your support on the
	mobile workforce legislation. Employer tracking and complying
	with all of the different State and local tax laws is complex
	and costly. We urge you to support mobile workforce legislation
	that provides a uniform national standard for nonresident State
	income tax withholding. That legislation would also provide a
	de minimis exemption from State income tax for nonresidents.
	Thank you, and I would be happy to answer any questions you
	may have.
	Chairman CHABOT. Thank you very much.
	I would comment that I think all four of the witnesses made
	great suggestions that I think we ought to seriously consider,
	and we will obviously pass these on to the Ways and Means
	Committee also in this process.
	So I will recognize myself for 5 minutes for questioning.
	And Mr. Reynolds, I will start with you if I can. You said that
	your company was audited twice and neither time did they find
	that you paid less than you were supposed to. I assume that
	that was a stressful process to go through, and I imagine it
	probably cost a lot. Can I pry and ask you, do you know
	approximately how much you all ended up paying out of pocket?
	And also, was there an opportunity cost to you spending all
	this time doing this so you were not spending it on your
	business? If you could comment on that.
	Mr. REYNOLDS. Well, certainly. There was some level of
	opportunity cost. In both cases when we were audited, it was
	important for us to involve our accounting firm in order to
	represent us as they talked with the IRS. It was particularly
	important when we had the disagreement with the initial auditor
	around how to defer software revenue, which took several weeks
	to actually end up resolving.
	So in the first case where there was no dispute, I think it
	was probably a couple thousand dollars, and in the second case,
	it was more around $6,000 or $7,000 of cash outlay to my
	accounting firm for their time in representing me.
	Chairman CHABOT. Thank you very much.
	Mr. REYNOLDS. The audits also, of course, took not only my
	time but my controller's time, bookkeeper's time, so it was a
	significant----
	Chairman CHABOT. So I am assuming it distracted you from
	your business. How many employees do you have?
	Mr. REYNOLDS. Pardon me? I have 38 employees.
	Chairman CHABOT. Thank you very much.
	Mr. Lewis, I will turn to you. I have been hearing from
	some of my constituents back in Cincinnati about business
	interest deductibility and the proposal in the Better Way
	agenda to eliminate, do away with it. How critical is interest
	deductibility to entrepreneurs as they try to launch or expand
	a business? And what impact could its repeal have on
	entrepreneurship in general do you think?
	Mr. LEWIS. That is a great question. I think you need to
	realize, to answer that question, a couple of things. Number
	one, the ability for a small business to flip a switch and grab
	equity capital is very limited. I know in theory you would like
	to say, well, you are indifferent. Someone can invest in your
	company with stock or you can go borrow, but the reality is
	borrowing is so much simpler and much easier. And that is the
	lifeblood of these small businesses. That is where they get it.
	So from their perspective, this notion that you are going
	to make it relatively neutral, that you cannot deduct
	dividends, you cannot deduct interest, will not ring true.
	Now, the tradeoff that you hear is you hear, well, you
	mentioned the Better Way, that you will be able to deduct all
	of your capital outlays, this million-dollar increase that Mr.
	Burton mentioned for section 179.
	But the reality is these small businesses already have
	that, by and large. Half a million dollars. It does not solve
	all the problems, as Mr. Burton said, but they are already
	expensing. So the only thing you would be gaining in this
	perhaps is a disallowance of that interest expense. And
	remember, these businesses run on incredibly thin margins. Most
	of them have an operating loss up front. There is a time where
	they know they are going to lose money until they can be
	profitable, so every dollar matters.
	So to answer your question, it is very critical for these
	businesses, particularly because on the other side they are not
	really picking up much in terms of immediate expensing which
	you might think with a larger company.
	Chairman CHABOT. Thank you very much.
	Mr. Pomerleau, I will move to you if I can. You mentioned
	that the current depreciation regime is very complicated, being
	comprised of more than two dozen depreciation schedules and
	requiring, I believe, 448 million hours each year for
	compliance. What is the impact of this on American businesses
	and the economy, and what do you suggest that we do about that?
	Mr. POMERLEAU. Yeah. So one of the big downsides with the
	current business Tax Code is this idea of depreciation.
	Requiring businesses to write off assets over a number of years
	basically reduces the amount they get back in those deductions.
	So if you could get a deduction of $100 up front, that is a lot
	larger of a deduction than if you took that $100 and spread it
	over 10 years. We find that if you move from this system to a
	system of full expensing, I mean, it would grow the economy by
	about 5 percent over a decade. So this is implying that
	depreciation under the current system is reducing the level of
	investment in the economy.
	Chairman CHABOT. Thank you very much.
	And I will conclude with you, Mr. Burton. You mentioned
	that repealing the excise tax imposed by Obamacare on health
	insurance premiums would be helpful to entrepreneurs. Did
	Obamacare impose any other taxes that are, in your view,
	hindering entrepreneurship?
	Could you turn the mic on again, please? That is all right.
	Mr. BURTON. The most obvious would be the Obamacare
	investment income tax, which is 3.8 percent. And so owners of
	passthrough entities or for, that matter, shareholders in C
	corporations would pay it. But there is a fairly long list of
	taxes that were a part of Obamacare.
	Chairman CHABOT. Thank you very much.
	My time has expired. The gentlelady, ranking member, is
	recognized for 5 minutes.
	Ms. VELAZQUEZ. Thank you, Mr. Chairman.
	Mr. Pomerleau, there seems to be agreement that the tax
	system is overwhelmingly complex. One of the main problems for
	businesses is deciding on which tax structure, which one of
	them offers the most advantages. Do you believe that the
	various options available make the tax law more complicated?
	Mr. POMERLEAU. Yeah, I think that that is true. So under
	current law there are several ways that you could form a
	business, and those have specific tax consequences. The big
	distinction, of course, is between passthrough entities, S
	corps, partnerships, sole proprietorships, and C corporations.
	So if you are deciding to make an investment, whether it is
	building a factory or buying a machine that is going to have a
	return for you, it matters what business form you go into. If
	you go into a C corporation, you may face a double tax. If you
	go into an S corporation, there are limitations there even if
	you do not face the double tax. So I do think that under
	current law there are a lot of calculations that business
	owners need to do that would not be necessary under a tax
	system that treats all investment equally.
	Ms. VELAZQUEZ. Thank you.
	Mr. Lewis, can you please describe the complications that
	passthrough entities may face in net operating loss
	calculation, and what can we do in Congress to address it?
	Mr. LEWIS. Okay. Thank you for the question.
	What happens, as has been said, when you have a passthrough
	entity, by definition that means the income of the business,
	although it is reported by the business, is passed through or,
	in other words, reported directly by the owners themselves. And
	most of the time, particularly in a small business setting, we
	are talking about individuals.
	So your question is if a business is owned by a bunch of
	individuals and they have a loss, how does that impact them
	individually? And the answer is when you file an individual
	1040, a business return into a 1040, you have two aspects. You
	have sort of like their personal aspect and then you have the
	business. And it is that interplay in between those two that
	creates the complexity.
	In a C corporation, as has been mentioned, it is relatively
	straightforward. If you lose money, the number kind of falls
	out. But in an individual standpoint, there is an entire IRS
	publication that takes you through how to separate out the
	business side of your dealings from your individual side, from
	your personal side.
	So some of the things that you could do would be to
	simplify the rules and maybe just say, all right, whatever the
	loss is coming from the business, without making adjustments,
	just recognize that in simplicity sake you might give up some
	equality issues, but you would gain a lot by simplicity. I
	think the theme that I have heard from the panelists that bears
	repeating is simplicity is the key. A lot of these small
	businesses are drowning in regulation, particularly from the
	tax side, and they need relief. They need to have more time, as
	Mr. Reynolds said, to spend on developing the software and
	finding customers than trying to comply.
	Ms. VELAZQUEZ. Thank you.
	Mr. Reynolds, in your testimony, you make note of the tax
	extenders passed into law in 2015 under the PATH Act. We have
	heard that 100 percent exemption of capital gains on investment
	in qualified business stock passed under this act has catalyzed
	investment in innovative startups. Would you be in support of
	allowing small businesses operating as LLCs to qualify in
	addition to corporations currently allowed?
	Mr. REYNOLDS. For the section 179?
	Ms. VELAZQUEZ. Yes.
	Mr. REYNOLDS. Yes. Yes, ma'am. I certainly would.
	Ms. VELAZQUEZ. Mr. Pomerleau?
	Mr. POMERLEAU. Yeah, I think that treating businesses
	across the board in the same way is important.
	Ms. VELAZQUEZ. Mr. Lewis?
	Mr. LEWIS. That is a really fantastic question. The ability
	under 1202 to exclude the 100 percent gain after 5 years--that
	is what you are referring to--yeah, I mean, there are several
	provisions in the Code where you should be entity neutral and
	this is one that is clearly patently not. And as a result, I
	think you have hit a very good point that should be explored.
	Ms. VELAZQUEZ. Okay. Thank you.
	Mr. Chairman, I yield back.
	Chairman CHABOT. The gentlelady yields back.
	The gentlelady from America Samoa, Mrs. Radewagen, who is
	the chairman of the Subcommittee on Health and Technology, is
	recognized for 5 minutes.
	Mrs. RADEWAGEN. Thank you, Mr. Chairman.
	I, too, would like to welcome the panel for being here
	today. Very interesting testimony.
	My first question is, and any one of you or all of you
	could answer it depending on the time, most of the proposals
	that are being talked about today will only affect the 50
	States and the District of Columbia. What proposals do you have
	for the five territories? Guam, the U.S. Virgin Islands, the
	Northern Marianas, and America Samoa have a mirror Tax Code to
	the U.S., and Puerto Rico has a different Tax Code.
	Mr. Pomerleau?
	Mr. POMERLEAU. I think that I am not really an expert on
	any of the territories' Tax Codes, but I think any of these
	issues can be applied to any of the territories' tax systems.
	It would be worth considering in any reform to improve business
	taxation.
	Mr. BURTON. Puerto Rico and American Samoa have greater
	flexibility under the law than other territories. To the extent
	the Congress drafts a pro-growth Tax Code, it will benefit the
	possessions that have mirror systems. American Samoa and Puerto
	Rico have the opportunity to adopt pro-growth simpler Tax Codes
	on their own initiative. I have some familiarity with Puerto
	Rico, not so much with American Samoa. And Puerto Rico's tax
	system is highly destructive and counterproductive and has had
	a very adverse impact in the island's economy. And they really
	need to reform it.
	But the basic themes of what any good tax reform proposes
	to be is it should lower marginal rates. You should move
	towards expensing of capital, and you should have a simple
	system. If you get those basic three things right, you are
	likely to have a positive impact on entrepreneurs.
	Mr. REYNOLDS. I cannot speak as a tax expert, but what I
	would say as a business person is that anywhere in the world in
	business, complexity equals cost. And whether it is government
	or business or the Tax Code, complexity equals cost. And to the
	extent that you can simplify your Tax Code. I think you will
	greatly benefit your economy and the businesses there.
	Mr. LEWIS. Chairman Radewagen, I think from an America
	Samoa perspective there would be a couple things I would
	suggest. Number one, as the House is considering this so-called
	border adjustability, because America Samoa and Puerto Rico and
	the other possessions are sort of in this high-risk situation,
	I think it would be critical to define whether or not those
	would be treated for domestic or international purposes if you
	proceed with the border adjustability. In other words, is a
	sale into or outside of America Samoa going to be deemed to be
	a sale to a foreign jurisdiction? Or is it going to be within
	the United States? And I think you can have an appreciation of
	the kind of severity that that might have. I think that would
	be one key thing as you are looking. Because, again, as I
	testified, border adjustability will impact small businesses as
	well as large. We live in a very global society where all you
	need is an Internet connection and you are an exporter. So I
	think that would be the first thing.
	The second thing related to small business is the fact that
	the way the filings work, the fact that the citizens of the
	possessions have Social Security numbers and a couple of years
	ago we saw a lot of ID theft because crooks would figure out if
	I can grab those Social Security numbers, they are not going to
	be the ones filing a U.S. return if they do not have U.S.-
	sourced income. I think potentially what we could work towards
	with the IRS is making these so-called IP PINs, these
	identification numbers that are available in the event that you
	have had ID theft. Right now those are pilot programs only in
	Georgia, Florida, and the District, where it is voluntary. If
	you have been subject to theft anywhere else you can grab one,
	but I think that would go a long way to helping protect the
	citizens of your possessions.
	Mrs. RADEWAGEN. Thank you, Mr. Chairman. I yield back.
	Chairman CHABOT. Thank you. The gentlelady yields back.
	The gentleman from Pennsylvania, Mr. Evans, who is the
	ranking member of the Subcommittee on Economic Growth, Tax, and
	Capital Access, is recognized for 5 minutes.
	Mr. EVANS. Thank you, Mr. Chairman.
	I would like to thank all of the people on the panel today.
	Mr. Lewis, we have heard from small businesses the need to
	make certain tax credits permanent. How does this temporary
	nature of the tax provision affect small businesses?
	Mr. LEWIS. Mr. Reynolds spoke to it, particularly section
	179. Let's look at that expense first and it will answer your
	question. If you look at section 179, the last time it was
	passed with the PATH Act in 2015, December 18th. That left
	about as much time as the shelf life of a carton of milk. Okay?
	So just 2 weeks. It is really hard to react to that. And so
	what you find is that you find that your constituents will be
	paralyzed. They will not assume anything until it is passed,
	and then at that point they have got the holidays. It is very
	difficult to put stuff into place.
	One of the things about good tax policy is certainty. So to
	answer your question, if you give the taxpayers certainty and
	you give them a playing field that they know that they can rely
	upon, they will react to it. So if you are trying to motivate
	them with a credit, whether it is the R&D credit like Mr.
	Reynolds's company, or some of the other credits, if you want
	to embrace energy credits or something else, the element of
	certainty is what trips the switch and allows people to react.
	If not, they will just sit back on the sideline and either
	discount what might happen or simply just be paralyzed and do
	nothing.
	Mr. EVANS. I kind of want to follow up to a degree.
	Deducting business startup costs can be complicated. What tax
	simplification methods could be taken to ease some of that
	complexity?
	Mr. LEWIS. Okay. So the Code section that deals with that
	is 195. And what happens is, I think as you realize, is from
	the time a business is organized until they open their doors
	and get their first dollar, kind of on the shadowbox behind the
	register, between that time period, the Code currently now
	makes us capitalize all that and recover it over some period of
	time. Shockingly, that period of time is 15 years. So you could
	expense up to $5,000, but the rest of it you have to recover
	over 180 months. That is a long time to not receive that
	benefit back to an entrepreneur who is worrying about making
	payroll the next month.
	So one of the things you could do is--why is $5,000 the
	right number? Why not think about increasing that number? Five
	thousand seems arbitrarily low when you consider that just to
	get the doors ready to open it can be a big number, it can be a
	big amount. So one of the things you could do is expense. Allow
	these startup businesses to expense a lot larger than $5,000
	and let them get immediate recovery for those costs to get the
	doors open.
	Mr. EVANS. Mr. Burton, how do you respond to concerns that
	lowering the corporate tax rate will disadvantage small
	businesses, perhaps stifle entrepreneurship?
	Mr. BURTON. I do not think lowering the corporate rate
	disadvantages small businesses in a sense. Some small
	businesses are C corps, but you want to try to have a tax
	system that treats passthrough entities and C corporations as
	closely as comparable as possible. Obviously, a
	disproportionate number of small businesses are passthroughs,
	so I have maintained that any tax reform plan has to take care
	of passthroughs as well as C corporations, and that the rate
	that passthroughs experience should be no higher than that of C
	corporations.
	And there was a period about 2 years ago where that was
	about to be forgotten. I do not think it is as serious a
	problem now. I think Congress has become much more conscious of
	that issue.
	Mr. EVANS. In your written testimony you stated that the
	Tax Code is riddled with special tax preferences. Please
	elaborate on the key tax preferences that put small businesses
	at a disadvantage.
	Mr. BURTON. Well, there is a list of them put out every
	year by the Treasury that is in the Federal budget, and by the
	Joint Committee. It is called the Tax Expenditure List.
	However--there is a really big however here--only some of them
	are what I would regard, and I think most tax experts would
	regard as genuine tax expenditures. Some of them relate on a
	very different conception of what is income, but they would
	include things like the various alternative energy tax credits.
	They would include things like the low-income housing tax
	credit. They would include things like the exclusion for
	employer-provided health insurance and all the various other
	employee benefits. And the list goes on in small micro type and
	it is probably several hundred long.
	Mr. EVANS. Thank you, Mr. Chairman.
	Chairman CHABOT. Thank you. The gentleman yields back.
	Thank you.
	The gentlelady from Puerto Rico, Ms. Gonzalez-Colon, is
	recognized for 5 minutes.
	Ms. GONZALEZ-COLON. Thank you, Mr. Chairman. Thank all of
	you for coming to the hearing today.
	Small businesses make up a large part of Puerto Rico's
	economy, as you may know. According to the SBA, about 80
	percent of the private sector workers in Puerto Rico are
	employed at small establishments, which is slightly higher than
	the percentage of U.S. Mainland. Specifically, more than half a
	million workers are employed by 45,000 small businesses. In
	that account, as we draft a new tax plan, Congress should
	continue to be mindful of the fact that Puerto Rico and the
	other territories are U.S. jurisdictions and home to U.S.
	citizens who are nationals, and that jobs in Puerto Rico and
	other territories are American jobs.
	Mr. Burton, you are very familiar, as you already said
	minutes before, but some of the disadvantages that Puerto Rican
	businesses face vis-a-vis is their mainland counterparts,
	right?
	Mr. BURTON. Very familiar is probably too strong. Familiar,
	yes, although I do not think the vast majority of the problems
	come from the Internal Revenue Code. It comes from the Puerto
	Rican tax system itself. As you know, most Puerto Rican
	businesses are exempt from income taxes, and instead of that,
	the Commonwealth of Puerto Rico imposes very high corporate
	taxes, radically higher than any other State or territory. And
	in addition, there are a host of other taxes. So the Puerto
	Rican Commonwealth tax system has an extremely negative impact
	on businesses, entrepreneurs, but also the Puerto Rican people.
	And the Commonwealth government needs to fix that.
	Ms. GONZALEZ-COLON. I agree with you 100 percent. That is
	why the new government just filed a new tax reform system to
	the island that is supposed to help the small businesses.
	Mr. Pomerleau, you mentioned that the top rates on capital
	gains and dividends, both at 25 percent, are the highest there
	have been since 1997 and 2002. What will be the ideal rates for
	optimum growth?
	Mr. POMERLEAU. It all depends on how you structure your Tax
	Code. So one thing to remember is that capital gains and
	dividends is a second layer of tax on corporate investments
	specifically. So, depending on what you do on the corporate
	side is going to bleed into what you are going to want to do on
	individual investment income. For example, there are proposals
	that can lower the tax rate at the entity level, so lower the
	corporate tax rate, but then when that income is passed
	through, you may raise the tax rate on individual investors so
	the tax rate is equalized or treated more similarly to wage
	income. But it all depends on your proposal.
	Ms. GONZALEZ-COLON. Thank you.
	Mr. Chairman, I yield back.
	Chairman CHABOT. Thank you. The gentlelady yields back.
	The gentlelady from North Carolina, Ms. Adams, who is the
	ranking member of the Subcommittee on Investigations,
	Oversight, and Regulations, is recognized for 5 minutes.
	Ms. ADAMS. Thank you, Mr. Chair, and thank you, Ranking
	Member Velazquez, for hosting this hearing on the complexity of
	the Tax Code and its impact on our Nation's small businesses.
	The State of North Carolina has over 800,000 small
	businesses, and the City of Charlotte, which I represent, is a
	great example of an innovation hub for many startups. So
	guaranteeing that these companies and entrepreneurs have a good
	understanding of the Tax Code is extremely important. So my
	questions will focus around our discussions on tax reform and
	how it can help our Nation's small businesses.
	So to start, I would like to give each of you an
	opportunity to share your thoughts on which elements of tax
	reform that promote startups and innovative businesses should
	be included in the discussions as we move forward here on
	Capitol Hill.
	Mr. POMERLEAU. Yeah, so I think that tax reform proposals
	that could help small businesses (1) expanding expensing which
	is in the House GOP blueprint; (2) better treatment of net
	operating losses. This is another proposal that is in the House
	GOP blueprint. Now, it does limit the amount you can take every
	single year, but it also allows you to carry forward those
	operating losses on an unlimited basis, so as far as you want,
	and it adjusts those losses for the cost of capital and
	inflation every single year so they do not ever lose value.
	Because one of the big problems here with the current code is
	the longer you have to wait to use your net operating loss, the
	lower the value is and that is important for entrepreneurs to
	have lots of losses over many years.
	Lower marginal tax rates would also be beneficial. Right
	now some business forms can face rates up to 44 percent or even
	higher in some States and lowering those rates down at the
	Federal level could help.
	Ms. ADAMS. Mr. Burton?
	Mr. BURTON. I agree with everything he said. I think there
	are some things he left off. Inventory accounting is a major
	complexity problem particularly for stores. It can get
	ridiculously complex, including the uniform capitalization
	rules, all the separate tracking, whether you are using LIFO or
	FIFO, and I am sure our friend from the AICPA could go into a
	great deal more detail.
	But also, I think capital gains rates matter a lot to the
	ability of entrepreneurs to be able to raise capital because
	they affect investors. And there is also the secondary factor:
	Once capital gains rates get above about 20, it actually costs
	the Federal Government revenue because people do not realize
	their gains.
	The other thing I would say is you sort of need to draw the
	distinction between small businesses that are not startups and
	others. And retirement savings and qualified accounts probably
	do not matter much to a guy who is rolling dice and starting a
	business those first couple of years, but a business like Tim's
	that has been around for a while, has employees, trying to
	think through retirement savings for his workforce and himself,
	the current complexity of the qualified account area has been
	extremely destructive. It is why so many small businesses do
	not provide retirement savings vehicles for their employees or
	for their owners. And we need to address that. It has become
	genuinely monstrously complex and it serves no real policy
	objective, no matter what your political philosophy.
	Ms. ADAMS. Mr. Reynolds?
	Mr. REYNOLDS. I agree with everything, but if I were to
	pick one thing, I would say that the efforts to level the
	playing field between passthrough entities and C corporations
	is quite critical, particularly to startup and small
	businesses. But I would say the overall metric around the
	comprehensive tax reform needs to be about simplification. We
	have a Tax Code that is 70,000 pages. If you could take it down
	to 35,000, I still would not be able to read it all, but it
	would be a big improvement.
	Ms. ADAMS. Mr. Lewis?
	Mr. LEWIS. I would, of course, echo what others have said,
	but I think philosophical simplification is the right word.
	Let's keep it simple. I think all of us would agree it is too
	complicated.
	What are some examples of that? Keep cash method of
	accounting. I think an entrepreneur can understand when I spend
	something, when I get something, that is when it is taxable.
	The complexity really comes into it when you start adding into
	this, well, when was it earned? They can follow their
	checkbook. It is much more harder, and that is where you start
	having to get additional people involved to help support. I
	think that is the philosophical view that would help with all
	of these issues.
	Ms. ADAMS. Thank you very much, gentlemen. I yield back,
	Mr. Chair.
	Chairman CHABOT. Thank you. The gentlelady yields back.
	The gentleman from Pennsylvania, Mr. Fitzpatrick, is
	recognized for 5 minutes.
	Mr. FITZPATRICK. Mr. Pomerleau, how are you? Regarding the
	tax rates for both capital gains and dividends, it is pretty
	high right now. What would you suggest a sweet spot would be to
	maximize growth and investment? What is the best rate based on
	your studies?
	Mr. POMERLEAU. So we have not studied this specifically,
	but David Burton has brought up that, at some point, the
	marginal tax rate on capital gains starts losing you revenue
	because people will delay realizing those gains in order to
	avoid the tax. So what you see looking at historical data, as
	David said, is the closer you get to 20, the better off you
	are. So if you start going higher than where we are now or,
	well, we are basically over 20 now, you may actually be losing
	revenue in the long run because people are delaying their
	realizations and pushing the gains into the future where they
	are going to yield less revenue for the Federal Government.
	Mr. FITZPATRICK. So no suggested rate to maximize
	investment?
	Mr. POMERLEAU. I do not think there is a specific sweet
	spot. I do not know if David may know.
	Mr. BURTON. Twenty percent should be the top. It is not the
	ideal rate because beyond that it not only has economically
	counterproductive effects, it costs the Federal Government
	revenue. Now, it might be 22, but that is an absolute top.
	In terms of the ideal rate, ideally, you are trying to move
	towards a consumption tax, or stated differently, a tax that
	does not double tax savings and investment. And it depends on
	the administrative structure that you choose how you treat it.
	If you treat all savings, for example, in an IRA-type
	treatment, then reinvesting capital gains would, in fact, pay
	nothing and it would only be when you withdraw it and do not
	reinvest it, and then you pay the ordinary income rate and
	other sales taxes like, for example, excuse me, other
	consumption taxes like, for example, what Chairman Brady has
	proposed. Financial transactions in principle are entirely
	disregarded.
	Mr. FITZPATRICK. I yield back.
	Chairman CHABOT. The gentleman yields back.
	The gentleman from New York, Mr. Espaillat, is recognized
	for 5 minutes.
	Mr. ESPAILLAT. Thank you, Mr. Chairman. Thank you to the
	witnesses, Ranking Gentlewoman Velazquez, for this opportunity.
	Mr. Lewis, startup businesses are often saddled with great
	cost, particularly since many of them are renters. And so when
	folks are about to start a new business they have to
	significantly invest in major capital improvement to the
	properties, which often leads them to have issues when they
	renew their lease because they have, in effect, invested in
	increasing the value of those properties. Do you see any real
	benefits, tax credits or other types of benefits, that can
	alleviate small businesses from this initial investment that
	very often leads to them shutting down before they even open?
	Are there any real practical proposals that you have that would
	alleviate that investment?
	Mr. LEWIS. Great question. From a policy standpoint, the
	AICPA does not have an official policy, but let me give you a
	sense of some ideas that you could look at, one of which is the
	section 179 we mentioned. Historically, it was just for
	personal property, stuff that you could take with you for lack
	of a better phrase. But on top of that there is some
	liberalization of that rule where you can expense more of what
	you are talking about. Allowing entrepreneurs to immediately
	expense on those initial outlays would help a lot because
	really, when you are talking entrepreneurship, you are talking
	cash flow. I mean, all the rest of this is great, but that is
	what matters to them. Their ability to make payroll is
	dependent upon their ability to keep the cash coming in. So
	anything that you can do to give them an immediate benefit back
	would be well received.
	Mr. ESPAILLAT. Thank you.
	My second question is regarding the empowerment zone, so
	what created in the past and what created in distressed urban
	and rural areas, and they provided tax credit to the tunes of
	$3,000 per employee hired within the zone. It provided monies
	for bonding authority. It also provided a serial tax on capital
	gains and the sale of assets and other types of benefits for
	several regions throughout the country that were economically
	distressed and had high levels of unemployment rates.
	How do you feel about this policy to provide tax credits
	for employees that reside within economically distressed areas?
	And do you see this as a good policy for spurring businesses
	and job creation?
	Mr. LEWIS. Is that for me?
	Mr. ESPAILLAT. Yes.
	Mr. LEWIS. Okay. Thank you.
	The AICPA put out several years ago something called Good
	Tax Policy, and we just recently updated it last month. Many of
	your staffs might be aware of it, but we listed 12 ideas that
	as you approach any tax question you ought to think in terms
	of. Things like neutrality, simplicity, transparency,
	minimizing the tax gap, things that you would just say these
	are fundamental key components of what we should be doing.
	So your question is a good one in that you are asking a
	question about the balance between simplicity, neutrality,
	maybe even certainty and convenience of payment. So my answer
	would be you would have to weigh all of those together, because
	if you just isolate the one question and you just say, well, is
	it good from this policy or that, I think you may not get the
	right answer. But you have to ask yourself where does it fit in
	the purview of all of the good policies and evaluate it that
	way.
	Mr. ESPAILLAT. Thank you. I yield back my time.
	Chairman CHABOT. Thank you. The gentleman yields back.
	The gentleman from Iowa, Mr. Blum, who is the chairman of
	the Subcommittee on Agriculture, Energy, and Trade, is
	recognized for 5 minutes.
	Mr. BLUM. Thank you, Chairman Chabot. Did I get that
	correct?
	Chairman CHABOT. You did.
	Mr. BLUM. I am slow but trainable. It took me 6 weeks to
	get that correct.
	Chairman CHABOT. I even got Blum right. Everybody else says
	``Bloom,'' so.
	Mr. BLUM. We are making progress.
	Chairman CHABOT. Excellent.
	Mr. BLUM. And thank you to the panel for being here today,
	particularly Mr. Reynolds. I happen to be an entrepreneur in
	the software business myself, and one of my basement companies
	in the 1990s went public in spite of the government. So I feel
	your pain.
	New business startups, 615,000 in the year 2005, 615,000.
	Ten years later, down to 450,000, down 40 percent. New jobs
	from new businesses, 4.7 million in the year 2000, down to 3
	million 15 years later. U.S. startups are at 40-year lows.
	So I would like to back up and talk a little bit about the
	formation of small business as it relates to tax policy. The
	only two ways I know to start a small business as far as
	capital goes is owner's equity; you put your own money into it
	and you go to the bank for capital. And if I walk through
	this--and I will take my own example--you are working for
	someone else, typically, unless you inherit money. You are
	working for someone else. You live beneath your means and you
	save some money. You put that money in a savings account in a
	bank and the interest is taxed.
	So then you put some of the money that you have saved over
	a lifetime, typically, maybe in the stock market. And then you
	sell those stocks and the capital gains, you are taxed. You are
	taxed on your interest. You are taxed on the capital gains.
	And then you think, okay, I have got some money here to
	start a business. Do I really want to go into it? Odds are I
	could get sued. Nuisance lawsuits. We need tort reform.
	Regulations are out of control. Do I want to deal with that?
	There is a multitude of things; also, taxes.
	So I would like to ask the panelists, and Mr. Reynolds, I
	would be interested in your personal story, what can we do as a
	Congress with tax policy to encourage savings? It seems to me
	that we discourage savings and encourage consumption in our tax
	policy. You cannot start a business without capital, and banks
	are not going to loan it all to you to start a business. So we
	need to go to the front end of this and say how does our tax
	policy encourage savings? Because that is where future
	businesses come from.
	And I will open it up to whoever wants to jump in.
	Mr. POMERLEAU. I think that that is an excellent question.
	There are a lot of places in the current Tax Code where the
	Code is discouraging savings, basically double taxing or triple
	taxing savings; the issue of dividend taxes, capital gain
	taxes. You say you earn $100 in wages. You save that money. Or
	you get taxed on those wages, you save that money, you earn a
	return, and then you are taxed again when you take that out as
	a gain. I think fundamental tax reform should move away from
	this system of double taxing savings towards a single layer of
	tax on saving and investment so people are not discouraged from
	saving. And that means it will not bleed into lower investment
	and lower economic growth, which is one of the big issues under
	the current Tax Code.
	Mr. BLUM. Would you agree our Tax Code discourages savings?
	Mr. POMERLEAU. Yes. I think----
	Mr. BLUM. Not a good thing for business formation?
	Mr. POMERLEAU. Yes. I think the things that expand IRAs,
	401(k)s, that would encourage savings. I think that fundamental
	reform that moves to a consumption-based tax would do the same.
	I think the House GOP blueprint moves much closer to an ideal
	system there.
	Mr. REYNOLDS. I would just say that you cannot use an IRA
	or a 401(k) to start a business. And we can debate whether or
	not that is appropriate or not.
	Mr. BLUM. If I could interrupt, Mr. Reynolds, how did you
	finance your business when you started?
	Mr. REYNOLDS. A combination of savings and loans. And that
	was 22 years ago and it was considerably easier then.
	I think that the Tax Code is one part of the problem in
	that particular circumstance. I think certainly a shift towards
	consumption-based taxing rather than taxing on income would go
	a long way to help that problem.
	I think that as a small business person, access to capital
	is an extremely important issue, and Congress over the last 8
	years has done considerable damage to small businesses' ability
	to get loans and access capital, and I think that that is
	something that needs to be addressed perhaps outside of the Tax
	Code, but it is a very vital issue to us.
	Mr. BLUM. And I was on a bank board, a billion-dollar bank
	back in Iowa, and I was chairman of the Director's Credit
	Committee. Every business loan over a million dollars came
	through our committee. And part of the problem with extending
	or making loans to new businesses was they were not
	creditworthy because they did not have enough equity to put in
	it. But as we are talking about it here, we tax away a big
	chunk of this equity as people are saving, as capital is
	forming along the way.
	Chairman CHABOT. The gentleman's time has expired, but, Mr.
	Burton, if you wanted to respond.
	Mr. BURTON. I just want to mention one thing. I released a
	paper yesterday that systematically walks through the reform
	agenda to improve entrepreneurs' access to capital, both in the
	banking and securities regulation area. You might want to look
	at that.
	Mr. BLUM. Very good. I will. I yield back, I guess, the
	time I do not have.
	Chairman CHABOT. Thank you. The gentleman's time has
	expired.
	And the gentleman from Florida, Mr. Lawson, who is the
	ranking member of the Subcommittee on Health and Technology is
	recognized for 5 minutes.
	Mr. LAWSON. Thank you very much, Mr. Chairman.
	My question will be do you think the intangible tax on
	property should be eliminated? On personal property in the
	office?
	Mr. BURTON. You are talking at the State and local level?
	Mr. LAWSON. Right.
	Mr. BURTON. In general, yes, I do. I think that
	particularly the way that they are usually administered, they
	are very complex and bordering on random. But of course, that
	varies tremendously State by State.
	Mr. LAWSON. Right. And the reason why I question it is
	because I have been in small business for 36 years and you pay
	more money to the CPA to do the reports than sometimes what it
	calls for the taxes. And I want to make sure that I was not the
	only one that felt that way.
	Mr. BURTON. Well, I think you are right. And then a lot of
	jurisdictions have these little gross receipts taxes, little
	inventory taxes, just little this, just little that, and the
	compliance costs relative to the money raised by the State and
	local government is very, very high, and the State and local
	governments need to simplify their tax systems as well. That is
	part of what guys like Tim experience. It is not any one rule
	or any one tax. It is the combined weight of hundreds of them.
	And basically, when you add it all up, they are overwhelmed.
	And we need you as a policymaker and your colleagues at the
	State and Federal level, you need to systematically try to
	reduce these burdens. And it is not you want to raise X dollars
	or Y dollars, just do it simpler.
	Mr. LAWSON. Right. Mr. Chairman, I have one more question.
	Back in I would say maybe July through September, there was
	a considerable amount of discussion about the minimum wage
	increase and there was some major corporation, like McDonald's
	and some people, really were focusing in on it and said, you
	know, we can ask for as much as $15 an hour. The minimum wage
	increase, even though you want people to have a livable wage,
	increasing the minimum wage has sometimes a devastating effect
	on small business, and any of you all can respond to it.
	Mr. REYNOLDS. I am in the software business and none of the
	people that work for me make the minimum wage. They are all on
	salary. My customers, however, are industrial distributors and
	often have people who are working minimum wage jobs in the
	warehouse and all. I think that, if I can speak for them, which
	they may or may not want me to, but if I can speak for them, I
	think that they would say that raising the minimum wage impairs
	their ability to hire additional people in those kinds of jobs.
	Mr. LAWSON. And I think, Mr. Lewis, you have done research
	in that area?
	Mr. LEWIS. We have not. It might be more for the
	economists.
	Mr. BURTON. The minimum wage affects a relatively small
	hunk of our population, but the real question is do you want to
	make it illegal for typically young people or inexperienced
	people to work at a lower wage, lower than whatever minimum
	wage is you pick? It is necessarily going to result in some
	unemployment of those people. It is necessarily going to result
	in somewhat higher cost to the employers. But I think the right
	way to think about it is it is targeted at the people who most
	need employment experience to do better. And we want a system
	that lets people get on the first rung of the ladder, and,
	typically, the minimum wage affects the youngest and least
	experienced people in the labor market.
	Mr. LAWSON. Okay. I yield back my time.
	Chairman CHABOT. Thank you. The gentleman yields back.
	The gentleman from Nebraska, Mr. Bacon, is recognized for 5
	minutes, finally.
	Mr. BACON. I want to thank you all for being here today. As
	a 30-year Air Force guy, you are really making it clear the
	complexity that our small businesses go through, so I really
	appreciate that.
	And I want to maybe just make a note to Mr. Pomerleau, too.
	I just thank you for your comments on capital gains. I find it
	fascinating that--or actually terrible that we have the highest
	capital gains tax since the 1990s and it has not only had a
	negative impact on our businesses, but it does not help out our
	tax revenues. Do I copy you right on that?
	Mr. POMERLEAU. No, I agree with that.
	Mr. BACON. All right. So that is important. We need to fix
	that.
	And Mr. Burton, I wanted to ask you about self-employed
	when it comes to ACA and health insurance. It is probably the
	number one thing I hear from our self-employed that that is the
	number one thing we have got to fix is the cost of premiums.
	And right now I believe it is partially deductible. Could you
	give us recommendations of how we could fix this better for
	self-employed when it comes to the ACA revisions? How can we
	get this right for the self-employed?
	Mr. BURTON. One thing is the tax treatment. You just want a
	deduction for purposes of the self-employment tax, the 15.3
	percent self-employment tax. But the other question is just the
	structure of the current health insurance market. Small
	employers and self-employed people are either not group
	insurance or very small group insurance and, therefore, tend
	to, given the structure of the current marketplace, have much
	higher costs. And part of that is the Affordable Care Act and
	part of it predates that. It was not as if a group of two or
	three people had it great before the Affordable Care Act. It is
	just worse now.
	And so that I think it is a matter of changing the
	structure of the health insurance market, making it less
	bureaucratic, more competitive. And my colleagues at The
	Heritage Foundation have put together a number of proposals to
	do that. I know enough about it to be dangerous, but I am not
	fully informed of the current state of play, if you will, so.
	Mr. BACON. Well, thank you. I talked to a self-employed
	couple yesterday, with some constituents. They are paying
	$30,000 a year, $12,000 deductible. It is the highest I have
	heard yet, and that is hard for a self-employed family.
	Mr. BURTON. It is. And I was on my own until about, I do
	not know, I guess it is going to be 6 years ago now. And the
	premiums then, and in a small firm were ridiculous. And now
	they are even more ridiculous.
	Mr. BACON. Mr. Reynolds, I wanted to follow up with a
	comment you made. You are right, about 70,000 pages of tax law.
	In fact, I think I read it was 78,000. How much time and money
	does it cost you and your company to work through all the--you
	know, to do your taxes?
	Mr. REYNOLDS. Well, as I said in my testimony, we simply
	cannot do our own taxes, and so we employ an accounting firm to
	prepare our taxes along with our annual review. Despite the
	fact I am a sub S, we have to do both corporate tax submission
	and a personal one as well, and they clearly have to relate to
	each other. And so my accounting firm does both. And I think
	for 2015, the bill came in at about $15,000.
	Mr. BACON. One last question. If you could immediately
	expense capital investments now rather than having to
	depreciate them over time, what additional investments would
	this allow your company to make? What kind of impact would it
	have if we fixed this?
	Mr. REYNOLDS. We are a services firm, so we do not have a
	lot of fixed assets. But what it would do if I can add, the
	kind of capital investments that we make generally are around
	the improvement of our facilities and making a better workplace
	would certainly accelerate our plans around that. I think, you
	know, we are a small business and we have to parcel things out
	over a period of time and it will allow us in general to act
	much more quickly.
	Mr. BACON. Thank you. Mr. Chairman, I yield back. Thank
	you.
	Chairman CHABOT. The gentleman yields back.
	The gentlelady from California, Mrs. Chu, is recognized for
	5 minutes.
	Mrs. CHU. Thank you, Mr. Chair.
	Well, there are many current tax policies that create
	inequities between small and large U.S. businesses, so I would
	like to address this question to Mr. Lewis. Certainly, the two
	most consistent burdens for small businesses are the cost of
	complying with tax provisions and the growing complexity of the
	Tax Code. I saw this firsthand as a member of the Board of
	Equalization in California, which was our State's elected tax
	board.
	We saw that too many small business owners had difficulty
	taking advantage of credits that they qualified for because of
	the complications. The IRS National Taxpayer Advocate found
	that the requirements of the Tax Code were so difficult that
	individuals and businesses spent 6.1 billion hours a year and
	this resulted in $163 billion spent in compliance costs. So how
	does this complexity create advantages for firms that can
	devote resources to identifying tax loopholes?
	Mr. LEWIS. Well, I think one of the fundamental things to
	recognize is that the complexity impacts not only the large
	companies, but also the small, and so it impacts them both. The
	severity would depend upon their circumstances and their
	industries.
	To give you an example, the Small Business Health Tax
	Credit that was part of ACA, relatively ineffective in terms of
	compliance because it is rather complicated. So even those who
	could qualify for that credit found it difficult to comply
	because of all the requirements and everything that went into
	it. So sometimes in our efforts I think to create incentives
	congressionally speaking, I think we need to always consider
	the implications of simplicity in them because right now to
	your point, there are a lot of credits out there and incentives
	that I think people do not avail themselves of because they
	simply are not aware.
	Mrs. CHU. And let me now ask about tax extenders and tax
	certainty, Mr. Lewis. Often Congress passes legislative
	modifications to this Tax Code in the form of tax extenders at
	the end of the year. However, the uncertainty surrounding which
	tax relief provisions will be renewed makes planning for
	startups and small businesses difficult. In fact, it was not
	until 2015 and the PATH Act that Congress finally extended some
	very important tax provisions, like the research and
	development credit and the section 179 expensing and made it,
	in fact, permanent. So how does this uncertainty impact small
	businesses and startups who are attempting to plan financially
	for the future?
	Mr. LEWIS. Yeah, you hit on a great point. Companies and
	individual owners of small businesses simply will not react.
	There are three ways you can do it. One, you can just be
	cavalier and go cowboy as it were, and you can just assume that
	Congress is going to do what they are going to do and go with
	it. But that is not most small business people's fate. They
	live by cash flow. They cannot just guess.
	So to your point, in 2015, what I observed personally is I
	observed a lot of people sitting on the sidelines, waiting and
	waiting, constantly calling their CPAs or their tax providers
	and asking at what point are we going to have certainty?
	December 18th, and let's be clear, for those purposes you
	mentioned, the section 179, it is not good enough to just
	simply charge the equipment and you are good for the year. You
	actually have to put it in service. So think about what your
	life is like on December 18th or 19th and how much flexibility
	you have in those 2 weeks' time period between then and the end
	of the year to buy, receive, and actually put into service some
	equipment when probably most of your staff is away for the
	holidays. It has a traumatic impact.
	At that point in the process, the way I would say it is
	rather than you proactively managing or motivating someone to
	behave, all you are doing is just sophistically scorekeeping.
	At that point it is just, well, what did I actually do? And did
	I take advantage of what was there now that it has happened? As
	opposed to January 1, knowing with assurance what you can rely
	upon.
	Mrs. CHU. And finally, Congress has created tax incentives
	to encourage business investment, but some tax experts have
	pointed that one-time tax breaks create complexity. Do you
	think there are times when there should be exceptions made for
	temporary targeted incentives?
	Mr. LEWIS. Well, I will say historically you are correct,
	that you have had times where there have been one-time off
	incentives. But I would go back to what I talked about with the
	good tax policy. There are various elements that you have to
	balance. One is you want neutrality. You want to have it be
	neutral and not necessarily motivate one way or the other. You
	want it to be simple. You want it to be certain, easy to
	administer, equity, and fairness. It can be in some payment.
	So the answer to your question is you have got to consider
	all those in any one particular situation. And it would just
	depend. There is no perfect tax law. If you just listen to that
	list I just gave you, you will observe that there is this
	tradeoff. Right? And so at some point it might make sense to
	embrace one or the other because you are going to have to do
	that, but, again, it would be a fact-specific situation.
	Chairman CHABOT. The gentlelady's time has expired.
	The gentlelady from Florida, Ms. Murphy, who is the ranking
	member of the Subcommittee on Contracting the Workforce, is
	recognized for 5 minutes.
	Ms. MURPHY. Thank you all for being here. I represent a
	district in Central Florida where small businesses are a
	significant part of the economy. But the district is also the
	youngest district in Florida, being home to the University of
	Central Florida, which is the second largest university in the
	country. And the millennial generation and the younger
	generation, there are studies that are showing that they are
	engaged in the gig economy more significantly and that that is
	going to grow significantly over the next 10, 20 years.
	And as such, they are considered to be self-employed. With
	the Social Security and Medicare taxes, they are generally paid
	as a part of a combined rate of 15.3 percent, half paid by the
	employer, the other half paid by the employee.
	In the case of self-employed individuals, they paid both,
	as if they are both the employer and the employee.
	So I guess my question for you is that would you consider
	this an inequity to sole proprietorships? And then more
	broadly, what kinds of changes do you think are necessary in
	the Tax Code to support this growing gig economy, the growing
	prevalence of self-employed individuals?
	Mr. BURTON. Well, let me just jump in real quick because I
	address that subject in my written testimony, and it is a
	problem that has been lingering since the 1970s that really
	needs to get fixed. There is a great deal of uncertainty about
	classification issues and whether someone should be treated as
	an independent contractor or an employee. And the IRS basically
	addresses this with a 20-factor test, and any test that has 20
	factors is necessarily going to be arbitrary and uncertain
	because there is no real way to know how the IRS is going to
	weight the various factors.
	And so what I have proposed in principle is to have bright-
	line tests for who is an employee, bright-line tests for who is
	not an employee, i.e., is an independent contractor, and in the
	middle ground allow either the employer or potentially the
	employee to elect subject to backup withholding probably at a
	25 percent rate.
	As to your other question about is it an inequity that
	self-employed people have to pay both the employer and employee
	share, the answer to that I think is no. The clear point is
	that there is a wedge imposed by the Social Security payroll
	taxes or Medicare or any other tax between what the employer
	has to pay tax inclusive and what the employee gets after
	taxes. And that wedge should be the same whether you are an
	employee or whether you are self-employed. And that is what the
	self-employment tax does.
	Mr. LEWIS. I can tell you from a practical standpoint that
	when I teach a group of students about the self-employment tax,
	particularly most of them being in this economy that you
	mentioned, it comes as a--I think the word is shock because
	typically I am teaching them in the winter and they are
	recognizing that they have got a whole lot of reckoning from
	the summer prior that they have not necessarily thought about.
	So maybe part of it is an educational process if nothing else,
	but the first time that they get hit with this it is an eye-
	opener. And if you are in the UCF community, you are going to
	see this a lot.
	In terms of the equity of it, I think the Congress is going
	to have to deal with the fact that the tax base is moving.
	Right? The fact that we are so global and that you have got
	this economic shift between traditional going to work for the
	plant and manufacturing to this. Everyone is sort of self-
	employed, whether it be the driver for hires or the rentals
	that people have. We are just shifting to where people are more
	in tune with their own financial circumstances. You are going
	to have to address that somehow in the tax law and recognize
	that that is a big portion that is going to continue to grow.
	Mr. BURTON. I once got asked who is FICA when they saw
	their first paycheck.
	Ms. MURPHY. Thank you. And I yield back the rest of my
	time.
	Chairman CHABOT. FICA is a very important part of our life,
	is he not? Or she? Thank you very much. The gentlelady yields
	back.
	Our last questioner, I believe, will be the gentleman from
	Illinois, who was at the markup that I otherwise would have
	been at if I was not here because we are both on Judiciary, who
	is the ranking member on the Subcommittee on Agriculture,
	Energy, and Trade, Mr. Schneider.
	Mr. SCHNEIDER. Thank you, Mr. Chairman.
	Let me take personal prerogative. I am excited to be back
	on the Small Business Committee and working with you to make
	sure that we are helping what is the engine of our economy:
	small businesses that need to have the confidence and see the
	path to grow and prosper. So thank you very much.
	The first question, just a quick question for Mr.
	Pomerleau, you talked about the issue of capital losses being
	offset against capital gains. And my understanding is the
	reason that is, is because capital gains are treated at a
	different tax rate than ordinary income. And so just real
	briefly, how would you adapt that as you are recommending to
	allow unlimited capital losses be offset against income?
	Mr. POMERLEAU. Yeah. So I do not necessarily believe you
	need to offset on an unlimited basis, and one of the challenges
	here is that when you have run out of capital gains, the only
	thing left is say labor income, and that labor income is being
	taxed at a higher marginal tax rate than your capital gains. So
	if you get to deduct against that, you are actually receiving a
	larger benefit than you should. So I think it has to be done in
	the context of a larger reform that rethinks how income is
	taxed. Because one of the challenges with having special tax
	rates on special types of income, whether it is passthrough
	income versus wage income or wage income versus capital income,
	is you run into these little administrative snags. So I think
	it would have to be done in the context of a larger----
	Mr. SCHNEIDER. I think that emphasizes the point all the
	witnesses made. Thank you for being here, first of all, because
	I know how busy you are, but the idea that any type of tax
	reform we do has to not just be corporate tax reform, but
	include passthroughs and individuals.
	Mr. Lewis, I am going to turn to you for as second, and you
	may have anticipated this question. I want to talk about cash
	accounting. And you talk about the importance of cash
	accounting for small business and entrepreneurs. But there are
	a whole group of businesses that are not typically considered
	entrepreneurial; for example, dentists and lawyers. Can you
	touch on who cash accounting affects besides the typical
	entrepreneurial startup business?
	Mr. LEWIS. Yeah. Cash accounting is critical to small
	business. One group of businesses where cash accounting is sort
	of mitigated is those that where inventory is a significant
	portion of what they are doing. So the idea is if you are
	buying a lot of stuff for resale, that is kind of a little
	different circumstance. But most of these startup businesses at
	some level will be entitled to use cash.
	But here is the key point. At some point, arbitrarily we
	set a deadline and say, okay, once you get beyond this point,
	now you need to move into accrual. And whether you set that
	limit at 10 million or at 25 million or some other limit
	perhaps, you need to recognize that that is going to have
	implications.
	Specifically with respect to pass-through entities, such as
	CPA firms, because the profits are passed through to the
	owners' individual tax returns a threshold at any level would
	directly impact an owner's individual tax return because that
	owner would be required to pay tax on income he or she has not
	been paid for by the client.
	I mean, we are in a country where we want to say to
	somebody, you know, within reason, grow your business. That is
	what creates jobs. That is what creates opportunities for other
	people. And so whether it is the capital aspect we have been
	talking about or whether it is freeing them up through the Tax
	Code, but that is why I was so emphatic saying that we have got
	to keep the cash method of accounting. And perhaps even look at
	expanding it because to your point that at some level an
	arbitrary ceiling will restrict growth, whether that is through
	merger or organic growth. But at some point, if I know as an
	entrepreneur that once I get beyond a certain point I am
	disincentivized because now I am going to add complexity and
	add all the cost, I am not going to be that interested.
	Mr. SCHNEIDER. Thank you. I do not know if any of the other
	witnesses want to touch on that?
	Mr. BURTON. Well, I agree it is very important,
	particularly for small firms. The principle underlying the
	Better Way plan is it is a cash flow tax, so it should address
	most of these issues when it is fully flushed out. I would hope
	it would do it both in terms of the general accounting method,
	also inventory and so on. It is a huge simplification to
	premise your tax accounting on cash rather than accrual.
	Mr. SCHNEIDER. So I will close with this and, Mr. Reynolds,
	it touches on something you talked about with your audits of
	having to explain to the IRS how your business works. Small
	businesses are different, but they are the engine. They are
	oftentimes family-owned businesses with multiple family members
	and they are pillars within the community. The time you take to
	come here to advocate on behalf of small business, to educate
	so many members of Congress, I cannot emphasize how important
	that is. The message has to be heard by our colleagues that we
	need to help small businesses have the confidence to step
	forward, to step up, and ultimately succeed to give us the
	growth we need. And with that I will yield back my time.
	Chairman CHABOT. Thank you. The gentleman yields back.
	And we want to thank the panel here for I think wonderful
	testimony here this morning and now this afternoon. I think the
	questions were great and we are obviously in the middle of tax
	reform, and we hope this is going to be a bipartisan process as
	much as possible. And as my colleague likes to say, there is no
	such thing as a Republican small business or a Democratic small
	business. They are just small businesses, and I think you all
	are getting the short end of the stick when it comes to the Tax
	Code right now.
	So hopefully, some of the reforms that we are able to
	implement will positively affect small business
	entrepreneurship and, therefore, job growth all over America.
	So thank you for playing a very important role in that here
	this morning.
	I would ask unanimous consent that members have 5
	legislative days to submit statements and supporting materials
	for the record.
	Without objection, so ordered.
	And if there is no further business to come before the
	Committee, we are adjourned. Thank you.
	[Whereupon, at 12:36 p.m., the Committee was adjourned.]
	A P P E N D I X

	[GRAPHICS NOT AVAILABLE IN TIFF FORMAT]

	The Small Business & Entrepreneurship Council is grateful
	that the Committee on Small Business is investigating the
	challenges of the U.S. tax code as they related to
	entrepreneurship and small business growth. Small business
	owners are excited about the prospect for tax reform in the
	coming year. We are hopeful that the Congress will move forward
	with a modern framework that brings simplicity, fairness and
	lower taxes to our nation's small businesses and entrepreneurs.
	As committee members well know, strong and sustainable economic
	and job growth is dependent upon a successful small business
	sector, as well as healthy startup activity.

	The Small Business & Entrepreneurship Council (SBE Council)
	is a nonpartisan advocacy, research and education organization
	dedicated to protecting small business and promoting
	entrepreneurship. For twenty-four years, SBE Council has worked
	to advance a range of initiatives and policies to strengthen
	the ecosystem for startups and small business growth. Our
	organization and its members deeply appreciate the work and
	dedication of Small Business Committee members, and we have
	been honored to work with the committee since our founding.

	While entrepreneurship in the U.S. has improved over the
	last several of years, the downward trend in new business
	creation remains. This started well before the Great Recession
	but obviously new business creation tumbled hard during this
	dark economic period. Unfortunately, entrepreneurship has never
	fully recovered. From 2009-2011 there were more business
	closures than startups, according to the SBA Office of
	Advocacy. The trend has slightly reversed course, but our
	economy does not have near the volume of entrepreneurial
	activity and business entities (as a share of the relevant
	population) that existed prior to the Great Recession.

	According to an analysis published by SBE Council's chief
	economist Raymond Keating, the significant decline in new
	business creation during the last decade has been felt across
	the board--among unincorporated and incorporated self-employed,
	startups and employer firms. Mr. Keating's ``gap'' analysis
	finds an estimated shortfall of anywhere from 867,000 to 4.8
	million businesses over the past decade, with ``3.7 million
	missing businesses being quite reasonable based on a
	combination of the most often cited self-employed and employer
	firms data.''

	Economic conditions and uncertainty, access to capital,
	regulatory uncertainty, and the aversion to risk are some of
	the reasons as to why individuals have not pursued, or are not
	pursuing, entrepreneurship. From SBE Council's perspective,
	making policy changes that help to reduce risks along with
	reforms that lower government costs and burdens is especially
	critical to enabling higher startup activity. The tax code is
	one such area that requires an overhaul, with small business
	health and growth being a priority for how this is
	accomplished.

	SBE Council is on record supporting various principles and
	proposals for tax reform, including: lower rates for all
	businesses entities, full expensing, low capital gain taxes,
	the elimination of AMT and death taxes, and making reporting
	and compliance as simple as possible.

	It is our hope that members of Congress also use this
	opportunity to update or modernize various measures in the tax
	code that advance simplicity and cut compliance costs, which
	are especially painful for startups and new business owners.

	Here are some of those ideas:

	Update the Threshold for Self-Employment Taxes: When I talk
	to people who help teenagers and young entrepreneurs start
	businesses, they continually report that these risk-takers are
	totally turned off by a complex tax code that immediately eats
	their profits. Self-employment taxes kick in at $400, which is
	15.3 percent of profits. The $400 threshold has not been
	changed since the 1950s, yet the standard deduction on federal
	income tax is adjusted annually. If the self-employment tax
	floor has been adjusted at the same rate as the standard
	deduction, it would be more than $6,000. It makes sense to
	update it, and relieve entrepreneurs of the burden that hits
	their businesses at such low business revenue levels.

	Liberalize the 100% Capital Gains Exclusion for Startups:
	SBE Council fully supported efforts that made the 100% capital
	gains tax exclusion permanent for startups. But the exclusion
	needs to be improved upon so that more startups benefit from
	it. First, the exclusion is limited to C corporations, and SBE
	Council believes it should be made available to S corps, LLCs
	and other business entities. Secondly, the exclusion is
	disallowed in ventures involved with personal services, law,
	banking, finance, leasing, hospitality, health, farming and
	mining. There is innovation occurring in all these spaces, and
	in several of these sectors consumers and small businesses
	would benefit from more competition and choices. The targeted
	and limited exclusion, as it now stands, is picking winners and
	losers in the marketplace and ignores how most businesses--and
	in this case new businesses--are organized. Ideally, capital
	gains taxes would be eliminated altogether, but if the current
	exclusion is going to be retained it can be made more robust to
	help drive startup activity across all industry sectors.

	Update and Clarify the Independent Contractor Test: SBE
	Council believes it is important to modernize the current test
	given the prevalence of the ``gig'' economy and the need for
	clarity. The current 20-factor test is arbitrary, but can be
	simplified to three or four factors. We believe there is an
	approach to reforming the 20-factor test that demonstrates
	contractor independence through written contracts, how the
	contractor is compensated, expenses incurred by the contractor,
	and how the work is performed. Businesses should be encouraged
	to do business with individuals who want to contract on a per-
	project basis, and on their own terms. The ``gig'' economy
	supports this freedom, and the government should not deter
	opportunity through the subjective and outdated 20-factor test.

	Indexing 1244 Small Business Stock to Inflation to Boost
	Capital in Startups: Again, here is an opportunity to update
	existing law, which has not been done since 1978. This minor
	change could unlock and mobilize more capital toward startups.
	Qualified small business tax (loss) treatment under Section
	1244 of the tax code allows for investors to deduct losses
	taken on investments in C Corp startups to be deducted against
	ordinary income. This measure was passed as part of the Small
	Business Investment Company Act of 1958, the aim of which was
	to mobilize more capital into job-creating startups.

	The current thresholds under Section 1244 were last updated
	in 1978, which are: First $1,000,000 of outside, individual tax
	payer(s) (angel investors) capital gets 1244 treatment;
	$100,000/yr of 1244 losses deductible against ordinary income
	(for joint tax return); and $50,000/y of 1244 losses deductible
	against ordinary income (for filing single).

	The Consumer Price Index has risen 363% since 1978. If the
	above thresholds were inflation adjusted, the levels would be:
	$3,630,000 of outside investors' capital would qualify for de-
	risking under 1244; $363,000/yr of 1244 losses could be
	deductible for joint filers; and $181,500/yr for single filers.

	Conclusion

	Tax reform is a key opportunity to help startups grow and
	thrive, existing small businesses to better compete and take
	more risks through smart investments, and encourage greater
	levels of entrepreneurship. SBE Council and our team of experts
	and small business member-advisors look forward to working
	further with the Small Business Committee to identify
	additional opportunities to fix the tax code for entrepreneurs,
	and advance a bill to the President's desk for his signature.
	Thank you for the opportunity to submit this statement for the
	record.

	SBE Council


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	(703)-242-5840


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