Tax professors shed light on financial meltdown
As part of University of Florida Back to College Weekend, UF Law tax faculty tackled a topic dominating the news and the consciousness of the country — the mortgage meltdown and the worldwide economic downturn it precipitated.
More than 40 UF alumni participating in the Back to College Weekend attended the Feb. 21 panel discussion at the law school. Titled, “President Obama’s Tax Initiatives and the Congressional Response,” the interactive session kept the diverse Back to College audience fully engaged. Moderated by Graduate Tax Program Director Michael Friel, the panel included Hugh F. Culverhouse Eminent Scholar in Taxation Lawrence Lokken, Professor Patricia Dilley, and Alumni Research Scholar Dennis Calfee.
One of the first questions from the audience dramatized how deeply the financial meltdown has impacted the average person.
“My son and I, we invested in a 401K. Do you have a final analysis of what’s happened to it? Where is our money?”
The query was in response to Lokken’s presentation on how the mortgage meltdown began and his analysis of the different mortgaging practices in which banks engaged, how mortgages were bundled into investment instruments and why these investments became viewed as “toxic assets.”
“That is a complicated question to which I do not have the answer,” Lokken replied, after reassuring the questioner that his 401K likely did not include bundled mortgages. “The thing that is interesting about these instruments is you can now go out and buy them for 20 cents on the dollar. … That is because people are expecting fantastic losses, which is more than likely not true.”
Lokken went on to say that people buying up these investments at pennies on the dollar are likely to make billions and billions of dollars on their investment, because the perceived risk is far higher than the actual. For the investor to lose money, 80 percent of the mortgages bundled in the instrument would have to be foreclosed, he said.
“We have a lot of home foreclosures, but do any of you live in a neighborhood where foreclosures exceed 80 percent?” asked Lokken.
Dilley followed Lokken’s presentation with a lively overview of executive compensation limits placed in the recently-passed stimulus bill. She also spoke extensively on payroll taxes and disparities in the wage base that support the Social Security program. Dilley predicted retirement issues would be the next component of the financial crisis that the Obama administration would need to address. This is an area in which Dilley has significant insight, since she worked for many years with Congress for the House Ways and Means Committee and served as the staff director for the Social Security Sub-committee of House Ways and Means, which helped craft the 1983 Social Security amendments.
“Traditionally, the wage base is supposed to be set at a level that would include 90 percent of wages in the U.S. economy. That is based on the notion that most income in our economy comes from wages and that wage levels are spread more or less evenly across the economy,” Dilley said. “This assumption is no longer true.”
She explained that total wages now subject to FICA has fallen from 90 percent in 1982 to 86 percent in 2004. This is due to the great disparity between average wage increases and compensation increases at the highest level. In other words, the bloated executive compensation packages causing so much consternation amongst those contemplating the banking bailout have also contributed to a greater proportion of wages escaping the wage base in support of Social Security.
“Why is this important? If the wage base had kept pace with the 90 percent level, it would eliminate almost half of the long-term deficit of the Social Security program, that is its 75-year deficit,” Dilley said. “So that’s one reason why it’s a popular topic for addressing Social Security’s long term program.”
Calfee followed Dilley’s presentation with a brief overview of federal estate and gift taxes and the generation skipping transfer tax. He outlined the Economic Growth and Tax Relief and Reconciliation Act of 2001 enacted during the Bush administration. The act followed a graduated schedule of increased exemption from federal estate and generation skipping transfer taxes up to $3.5 million per individual and $7 million per married couple in 2009.
The act stipulates that the estate of any person who dies after Dec. 31, 2009 will not be subject to federal estate or gift taxes. After Dec. 31, 2010, the taxes would revert to the levels that were in place in 2001 — an exemption of $1 million per individual and a 55 percent rate of taxation of the estate in excess of the exemption. This one-year hiatus from federal estate and generation skipping transfer taxes has placed pressure on the Obama administration to act, and there has been a lot of concern about what the president would propose to replace it.
“Well, I want you to know we called the White House about an hour ago to find out if he’d decided,” Calfee joked. “But they’re focused on the stimulus plan and they’re not thinking about this too much, so we basically have to go by what Obama said during the campaign.” Calfee explained that, based on what he said during his campaign for the presidency, Obama would keep the applicable exemption amount at $3.5 million, and the rate at 45 percent for both estate and generation skipping transfer taxes.
As the session drew to a close and final questions were being taken, the conversation returned to the dire state of the economy.
“Is the stimulus package going to work?” one person in the audience asked.
“Well, I’ll do the typical law school professor weasel… It depends on what you mean by ‘work,’” Dilley quipped to laughter from the audience.