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TABLE 7.-HEALTH AND WELFARE

Tax Expenditures, 1968

[In millions of dollars]

Aged, blind, and disabled:

Additional exemption, retirement income credit and exclusion of OASDH! for aged....

Additional exemption for blind.

Exclusion for sick pay...

Exclusion of unemployment insurance benefits.

Exclusion of unemployment insurance benefits..

Exclusion of workmen's compensation benefits..

Exclusion of public assistance benefits..

Exclusion for employee pensions....

Deduction for self-employed retirement..

Exclusion of other employee benefits:

Premiums on group term life insurance....

Accident and death benefits..

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Exclusion of interest on life insurance savings.

2,300

10

85

300

300

150

50

3,000

60

400

25

1,100

25

150

900

Deductibility by individuals of charitable contributions (other than education) including untaxed appreciation.... 2, 200 Deductibility of medical expenses..

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In the absencet of the 10 percent standard deduction and most itemized nonbusiness deductions, the minimum standard deduction as presently structured would be taken by all taxpayers and its revenue cost would be relatively large. Under present treatment, the minimum standard deduction, in keeping with its objectives, is claimed almost entirely by lowincome taxpayers and its revenue cost is $300,000,000. The revenue estimate assumes the minimum standard deduction is designed to assist only low-income taxpayers. The minimum standard deduction is regarded in this analysis as related to the system of personal exemptions and thus a part of the structure of an income tax system based on ability to pay, rather than as a tax expenditure.

Less than $50,000,000.

Education and Manpower

Additional personal exemption for students.-Taxpayers may claim personal exemptions for dependent children over 18 who receive $600 or more of income per year only if they are full-time students. The student may also claim an exemption on his own tax return, in effect providing a double exemption, one on the parents' tax return and one on the student's.

Deductibility of contributions to educational institutions. Contributions to nonprofit educational institutions are allowed as an itemized nonbusiness deduction for individuals.

Exclusion of scholarships and fellowships.-Recipients of scholarships and fellowships may exclude such amounts from taxable income, subject to certain limitations.

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All veterans pensions due to disability and those paid by the Veterans Administration due to age (over 65) are excluded from taxable income.

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The Federal Government through certain tax provisions provides indirect assistance to State and local governments. The deductibility of property taxes on owner-occupied homes involving a revenue cost of $1.8 billion is listed above under community development and housing as an element of the tax system which provides support to promote housing. This deduction also aids States and, particularly, local governments, by providing more flexibility in financing their expenditure programs.

Two other special tax provisions also aid State and local governments, but unlike the deductibility of property taxes on homes, they do not fit clearly within any of the functional categories now used in the budget. They are, therefore, shown as a separate budgetary heading, aid to State and local government financing.

In calculating income subject to tax, individuals may take as itemized nonbusiness deductions State and local personal income, gasoline, sales, property, and other taxes. The deductibility of all these State and local taxes (with the exception of taxes on owner-occupied homes) on nonbusiness returns is classified as support for the finances of State and local governments, rather than listed under any of the functional categories in the current budget.

As a result of the exclusion from tax of State and local bond interest, these governments are able to sell debt obligations at a lower interest cost than would be possible if such interest were subject to tax.

The relative importance of indirect assistance to State and local governments through these provisions as compared with direct aid is not shown because the present budget does not show in a single functional category the aid given to State and local governments. The amounts of direct Federal aid by function, however, are brought together in Special Analysis O of the Budget for fiscal year 1970.

TABLE 10.-AID TO STATE AND LOCAL GOVERNMENT FINANCING

Tax expenditures, 1968

[In millions of dollars]

Exemption of interest on State and local debt obligations.........

1,800

Deductibility of nonbusiness State and local taxes (other than on owner-occupied homes): 1
Individual income tax..

General sales taxes..

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Personal property taxes.

150

125

2,800

1,800

Gasoline taxes..

Other taxes...

Total..

Property taxes on owner-occupied homes (included under community development and housing).

Total, all State and local nonbusiness taxes...............

4,600

* For businesses owned by individuals, taxes other than income taxes are considered a cost of doing business and thus deductible in arriving at a net income figure.

Capital Gains—Individual Income Tax

The tax treatment of capital gains of individuals involves a large amount of tax expenditures. These expenditures would fall under a variety of functions in the Federal budget, including commerce and transportation, agriculture and agricultural resources, natural resources, community development and housing, and health and welfare. Available sources, however, do not provide a basis for accurate distribution among these functions. Thus, to avoid distorting any single category but to identify the importance of this special provision under the individual income tax, a new heading outside the budget classification is included for this item. Omission of this item leads to an understatement of the amounts of tax expenditures for the functional categories affected.

The types of special treatment accorded capital gains and the resulting tax expenditures are as follows:

If the owner of appreciated capital assets dies, the capital gains tax is not applied to appreciation which would have been taxable had he sold the assets just before death. Heirs who receive appreciated property from the decedent and who subsequently sell the property are subject to capital gains tax only on appreciation occurring after they acquired the property. Thus the appreciation on assets held until death is never taxed under the income tax. The revenue cost of this treatment is $2.5 billion at present capital gains rates. (If taxed at full ordinary rates, the cost is $4 billion.)

As to realized gains, half of the gains from the sale of capital assets held more than 6 months is excluded from income, and in no case is the tax rate applicable to such capital gains allowed to exceed 25 percent. The revenue cost of this treatment is $4.5 billion. The revenue cost of this treatment at ordinary rates for both realized gains and gains untaxed at death is $8.5 billion (including the $4 billion mentioned above).

The cost of capital gains treatment under present law is complex for a number of reason. It could be contended that :

1. Full taxation of realized capital gains, even with full taxation at death, could result in greater postponement of lifetime gains;

2. With a different treatment of capital gains another approach to the corporation tax might provide for some integration of corporate and individual taxes by giving taxpayers who sell corporate shares some credit for taxes paid by the corporation on retained income which is reflected in share values; and

3. Averaging of capital gains would lower the indicated revenue costs. In recognition of the complex issues involved, the tax expenditures involved in the present treatment of capital gains of individuals are placed in a range of $5.5 to 8.5 billion. (No table is shown for this heading.)

IMPORTANCE OF TAX EXPENDITURES

The above analysis indicates that tax provisions control a large fraction of budget resources employed in several functional categories. With respect to commerce and transportation, for example, the volume of budget resources allocated by current special tax provisions is approximately the equivalent of budget outlays. In certain other functional categories, such as natural resources, community development and housing, and health and welfare, tax provisions constitute a major component of total Government activities.

Many reasons for the enactment of these tax provisions may be found other than the promotion of the functional activity under which they are listed, just as a multitude of forces affect the approval of direct Government expenditures which are nonetheless summarized under specific functional headings. This analysis in no way reflects on the wisdom of such reasons.

More efficient use of resources by the Federal Government is advanced, however, if explicit account is taken of all calls upon budget resources, including tax expenditures. The relative importance of different budgetary objectives can be more carefully weighed against all the budget resources used for this objective. Also, the effectiveness of alternative methods of achieving these objectives, whether through direct outlays, loan subsidies, or tax expenditures, can be fully understood, examined, and reevaluated periodically.

Secretary BARR. That concludes my testimony, Mr. Chairman, and I thank you.

Chairman PATMAN. Thank you very much, Mr. Secretary.

(Secretary Barr's prepared statement follows):

PREPARED STATEMENT OF SECRETARY OF THE TREASURY JOSEPH W. BARR

Mr. Chairman and Members of the Joint Economic Committee, I appreciate the opportunity to meet with this distinguished Committee. I think it extremely important that the members have the economic rationale for the financial plan President Johnson has recommended to the Congress a plan that is responsible and realistic in terms of the country's needs and resources, and that is consistent with our responsibilities to keep the dollar strong and respected.

Before getting into the body of my remarks, I want to take a moment to pay tribute to you, Mr. Chairman, to the Vice Chairman, Mr. Patman, and to the members of the Committee. Under your leadership, the work of this Committee has contributed greatly to the tremendous growth of public interest in economic issues, to better informed public attitudes on economic policy, and to the record economic progress the United States has achieved.

The economy is now in the 95th month of the most sustained and vigorous period of economic expansion in our country's entire history. There is no need for me to enumerate here the many economic records established during this period of unprecedented prosperity. I believe that in his State of the Union Message and in his Economic Report to the Congress the President clearly established that the economy is now stronger and more vigorous than ever before, with production, employment, and after-tax income, including both wages and profits, all at record highs, far above the levels of a decade ago.

And I want to emphasize that this isn't just a dollar prosperity. The purchasing power of the average American-the real goods he can buy with his dollar income after taxes-has actually increased by 31 percent between 1960 and 1968. This, gentlemen, is the basic definition of economic progress.

Perhaps an even more significant aspect of our economic well-being is that it is probably being shared by a broader segment of our population than during any previous time of great prosperity. Not only have business profits soared to record highs but the unemployment rate has been sharply reduced-particularly among minority groups who have not adequately shared in economic gains of the past. Much remains to be done in this key area of national policy, but it is clear that significant progress has been made in removing barriers and expanding job opportunities for our under-privileged citizens.

However, we must recognize that serious economic problems must still be overcome. The increase in consumer prices in the past year of nearly 4 percent is certainly larger than we can tolerate for very long. Although a small balance of payments surplus was achieved in 1968, vigorous efforts must continue to maintain this record in the current year.

Today I want to go beyond the over-all indicators of a prosperous economy and in a sense see whether the financial underpinning of our economy will support continued sound expansion in the years to come. I also want to review briefly a few items of major, unfinished business that will bear heavily on our future economic growth and, in some instances, that of the entire Free World. Probably the most important single component of this financial underpinning of our economy is the Federal budget. A properly designed budget should reflect what the country needs, what it can afford and what the Congress can be expected to do. In my judgment President Johnson has presented to the Congress a budget that fully meets this standard. In fiscal 1969 the budget is expected to be strongly in the black, with outlays of $183.7 billion, revenues of $186.1 billion and a surplus of $2.4 billion. For fiscal 1970 we have projected an even larger surplus of $3.4 billion.

In fiscal 1970 budget receipts are estimated at $198.7 billion, an increase of $12.6 billion over the estimate for fiscal 1969. Outlays in fiscal 1970 are projected at $195.3 billion. The estimated increase in fiscal 1970 Federal revenue is due almost entirely to anticipated economic growth. For calender 1969 we have projected a gross national product of $921 billion, personal income of $736 billion and corporate profits of $96 billion.

Now there is nothing inherently good or bad in itself about a budget surplus or deficit. The test is whether it contributes to the economic strength of our country. And a budget does this only when it is consistent with current and prospective economic realities.

In the context of the economy as we see it, a Federal budget surplus for fiscal years 1969 and 1970 is necessary for several important reasons.

First, a budget surplus will tend to restrain over-all demand during a time when our productive capacity is straining hard to meet the demands thrust upon it. Second, a budget surplus means that during this period the Treasury will not on balance be competing for funds in our already hard-pressed credit markets. In fact, in fiscal 1969 and 1970 taken as a whole, the Treasury will actually be adding funds to the private credit markets in contrast to the situation in 1969 when $23.1 billion had to be drawn from private investors. This healthy situation means greater freedom for the Federal Reserve to establish effective monetary policies, and more ready access to private savings by private users of credit and state and local governments-borrowers who have had a rough time in past tight money periods. In this context the home-building industry in particular should greatly benefit.

A third important reason for maintaining a Federal budget surplus at this time is that it will strengthen the hand of our negotiators during the critical period in which we will be working to improve and modernize the international monetary structure.

The Federal Government influences economic activity and the distribution of income not only through direct expenditures and loan programs but also through special tax provisions. A dollar foregone through a special tax provision is no different than a dollar spent through a budget outlay. In other words, these

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