By Kim Dixon
WASHINGTON (Reuters) - The Senate's top Democratic and Republican tax-writers, undertaking a rewrite of the U.S. tax code, on Thursday challenged their Senate colleagues to justify keeping popular tax breaks versus lowering rates.
Senate Finance Committee Chairman Max Baucus, a Montana Democrat, and the committee's top Republican, Orrin Hatch of Utah, wrote lawmakers in a "dear colleague" letter that they were starting their bill with a "blank slate."
That means starting with a tax code with unspecified, but potentially substantially lower, rates and none of the hundreds of tax breaks that are embedded in the code now, according to the letter.
The duo gave lawmakers until July 26 to make their arguments for putting various so-called tax expenditures - from the politically popular mortgage interest deduction to business breaks such as the research and development tax credit - into the bill.
Such tax breaks cost the U.S. government about $1.3 trillion a year. After three years and dozens of congressional hearings about overhauling the code, Baucus and Hatch said to their colleagues: "Now it is your turn ... We need your ideas and partnership to get tax reform over the finish line."
The goal is to pass a bill in this Congress, which ends at the end of 2014, aides said.
Personal income tax rates range from 10 percent to 40 percent. The top corporate income tax rate is 35 percent.
Baucus' counterpart in the U.S. House of Representatives, Republican Dave Camp of Michigan, has pledged to pass legislation this year out of his Ways and Means Committee.
Camp's aim is to cut the top rates to 25 percent, though there is some debate among Democrats and experts about how feasible that is, given the support for many tax breaks.
Baucus and Hatch are not setting a goal on rates.
A major stumbling block remains. Democrats and Republicans largely concur on the need to revamp the outdated tax code, but they differ on whether new revenue should be raised and which tax breaks should be scrapped to offset lower rates.
Indeed, they sidestepped the question of whether any revenue raised from eliminating breaks should be used for deficit reduction, or if all of it should be used to trim rates.
Despite the enthusiasm of tax-writing lawmakers, congressional leaders of both parties have been wary, largely due to these divisions.
Staffers for both senators said their party leaders back the clean slate approach.
Corporate lobbyists were abuzz about the effort all week. They have been forming alliances for the past year to make the case for their particular interests.
Baucus and Hatch are essentially setting up a math problem for lawmakers. Based on analysis by the nonpartisan Joint Committee on Taxation (JCT), they told colleagues that adding back in individual tax breaks worth $2 trillion over 10 years would lead to raising each tax bracket rate back up by between 1.3 and 2.2 percentage points.
"The carrot is the rate reduction," said Maya MacGuineas, president of the business-backed Committee for a Responsible Federal Budget, who praised the approach. "You can't get rid of the home mortgage interest deduction just to get rid of it."
On the individual side of the tax code, the biggest tax breaks include the tax exclusion for employer-provided health care and pensions, and the home mortgage interest deduction.
Adding back in $200 billion in corporate tax breaks would require raising the rate back up by 1.5 percentage points, according to JCT.
The biggest tax breaks on the corporate side include tax deferral of profit from foreign units of U.S. multinational companies and faster write-off for depreciation of equipment.
(Editing by Kevin Drawbaugh and Vicki Allen)