Thinking Outside the Little Boxes
24 Pages Posted: 26 Mar 2002
Date Written: March 2002
Herwig Schlunk, in his paper "Little Boxes: Can Optimal Commodity Tax Methodology Save the Debt-Equity Distinction?" argues that the theory for line drawing in the tax law developed in several of my prior articles is flawed. In particular, Schlunk argues that the method is path dependent and, therefore, arbitrary. Moreover, he argues that it will be defeated by taxpayer manipulation, such the use of arbitrage or hybrid positions.
This article responds to Schlunk's paper. I show here that the line drawing methodology is not path dependent in any unique way. Schlunk's argument relies on an unjustified assumption that prior line drawing decisions in the tax law will not be revisited when new information become available. Without this assumption, his claim fails. Moreover, if decisions cannot be revisited, line drawing theory would not become arbitrary, contrary to Schlunk's claim. Instead, line drawing decisions would have an option element that would have to be priced in the decisions.
Keywords: Commodity tax, debt-equity, tax law, tax methodology, Schlunk
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