The pending debate over highway spending has tax implications and the pass-through business community should pay attention.
The Highway Trust Fund will run out of money in the next couple weeks and both the Senate and the House are planning a two-step response — a short-term patch that will keep highway projects funded into next year and then longer bills that would establish highway policy for the next couple years.
How to allocate all those dollars for roads and bridges is always a complicated and politically charged affair. So is how to pay for it. Finance and Ways and Means both are expected to hold markups tomorrow on their respective plans. Here are the offsets for each:
- Ways and Means: $11 billion in offsets from pension smoothing ($6.4 billion), customs user fees ($3.5 billion), and transferring funds from the Leaking Underground Storage Tank fund ($1 billion)
- Finance: No final deal yet, but it looks like they are shooting for $10 billion in offsets including mortgage reporting ($2.2 billion), extending the statute of limitations on overstatement of basis ($1.3 billion), and a host of other items.
Considering the alternatives — gas tax hike, tolls on interstate highways — this set seems pretty tame. That said, the debate over the highway bill should serve notice to the business community that while tax reform may be on hold, Congress will continue to look to tax policy to offset some of its other priorities, so we need to be vigilant.
Meanwhile, action on extenders and related items continues at a low level. This week, the House will take up a permanent 50 percent bonus depreciation bill. While bonus depreciation is not really an “extender,” it does keep the focus on all those expired provisions, and it’s not bad policy either. Coupled with the higher Section 179 limits, the bill goes a long way towards moving the tax treatment of business investment towards general expensing, something many economists have argued is good for the economy. As the Tax Foundation noted:
We find that permanently extending this provision would boost GDP by over 1 percent, wages be 1 percent, and create 212,000 new jobs due to its effects on the cost of capital. It would also increase federal tax revenues by $23 billion after taking into account the increases wages and incomes caused by making bonus expensing permanent.
Extending R&E, Section 179, and built-in gains — either permanently or for several years — would be good for the economy too. These provisions already expired at the end of last year (2013), so every day Congress waits is a day of benefit lost. When Congress does act, it will make the extension effective back to January 1st, but it will be hard to argue that business investment increased in 2014 because of higher Section 179 limits that weren’t retroactively extended until this December, won’t it? The behavioral effect will be lost.
Moreover, any extension that is less than two years (2014 and 2015) would require Congress to come back next year and perform the exercise all over again. How Congress expects businesses to use these provisions to their advantage when they keep expiring is beyond our ability to explain, and one of the best arguments behind Chairman Camp’s push to make them permanent.
Despite the strong case for action now, any meaningful movement prior to the elections would be shocking. There’s only seven or eight weeks of session left before Congress recesses for the elections, and with the extenders already expired, we can’t see a real catalyst out there that would compel the House and Senate to come together on a package.
That’s too bad, and is just one more reason why both the tax code and the policy making process that creates it appear wholly dysfunctional.
It’s a big day for S corporations! Earlier today, the House voted to adopt HR 4453, the S Corporation Permanent Relief Act of 2014, by a count of 263 to 155. The bill, sponsored by Representatives Dave Reichert (R-WA) and Ron Kind (D-WI) makes permanent the five year built-in gains holding period, and contains a basis adjustment fix for charitable contributions made by S corporations.
These S corporation provisions received strong bipartisan support. All but two Republicans supported the measure, while forty-two Democrats parted with their leadership and the Administration and voted yes. Ways and Means Committee Chairman Dave Camp kicked off the day by offering these remarks on the House floor:
The bill we have before us today is the right step forward to level the playing field between the small businesses on Main Street and big businesses. If a small business chooses to operate as an S corporation for tax purposes, we should ensure that they have the ability to access certain capital without tax penalties.
…This is a bipartisan, commonsense bill that will give small businesses some much needed relief from the burdens of the tax code, and allow them to make new investments and create new jobs.
Washington State Congressman and S-Corp ally Dave Reichert had this to say:
The BIG tax is a double tax on S corporations who want to sell their assets after converting from C corporation status.
…As we’ve heard from Jim Redpath…who testified before one of our Ways and Means hearings…the BIG tax causes S corporations to hold onto unproductive or old assets that should be replaced. He gave the example of a road contractor which is holding onto old equipment that is sitting in the junkyard…because if he sold them, they would be subject to the BIG, double tax.
Instead of selling the assets and using the proceeds to hire new workers or invest in new equipment, the business owners sit on the sidelines. This is a perfect example of the tax code influencing business decisions and needs to stop.
Opposition focused on the fact that the legislation included no offset. The Joint Committee on Taxation estimated the bill would cost $2.1 billion over ten years. The Democrats offered a motion to recommit – also lacking an offset – that would have extended the two provisions for two years only. This “no offset” argument also was at the heart of the veto threat articulated by the White House yesterday.
We strongly disagree with these concerns. JCT may score tax legislation on a current law basis but taxpayers, including business owners, live in a current policy world. Offsetting the cost of extending tax rules these businesses already use, and have used for years, makes little sense. Moreover, as the motion to recommit demonstrates, many of those opposed to making these provisions permanent were willing to incur the revenue loss of extending them temporarily. What is the difference between voting once to extend these items without an offset, and doing so repeatedly every year or two?
As far as next steps, the tax world now shifts it gaze to the Senate side, where new Finance Committee Chair Ron Wyden (D-OR) and Majority Leader Harry Reid (D-NV) are working out how to best move forward on their extenders package, which includes two year extensions of these to S corporation provisions. Our best guess is we will have to wait until after the November elections before we see further movement on these items, but that doesn’t detract from the success of the day and it certainly won’t prevent us from continuing to press these issues when we’re up on the Senate side!
A broad coalition of business groups came out in support of S corporation reforms today, writing to House of Representatives in support of HR 4453, the S Corporation Permanent Relief Act of 2014. The House is expected to vote on this measure tomorrow.
As Wire readers know, making permanent the five year recognition period for built-in gains has been a priority of the S Corporation Association for years, and while we’ve been successful in reducing the recognition period on a temporary basis, this is the first time either the House or the Senate has considered a permanent fix. Given the current softness of the economy, particularly when it comes to business investment levels, acting now makes perfect sense.
Unlike public corporations, these closely-held businesses have little or no access to the capital markets. Instead they rely on banks, relatives, and their own savings to fill their investment and working capital needs. An overly long built-in gains recognition period makes this disadvantage worse by preventing converted S corporations from accessing their own capital and putting it to better use.
Locking up a company’s capital for an entire decade is simply unreasonable. Past Congresses have recognized that a decade is too long and voted to reduce the recognition period on three separate occasions, but those temporary measures have expired and the 10-year rule is back in effect.
You can read the entire letter here.
…And Against Buffett Tax
In another trade group letter, more than thirty business groups, including the US Chamber of Commerce, the National Association of Manufacturers, the Restaurant Association, and the S Corporation Association, wrote to Senate leaders expressing their strong opposition to the Buffett tax provision included in the student loan bill (S.2432) pending before the Senate. As the letter states:
Included in S. 2432, the Bank on Students Emergency Loan Refinancing Act, the Buffett tax is a permanent $73 billion tax increase on taxpayers and business owners to pay for new federal spending. This new tax would be imposed on top of the other taxes business owners must currently pay, resulting in an increase in both the amount they pay and the complexity involved in calculating how much they owe.
As outlined in the bill, the Buffett tax requires those making over $2 million per year to pay a minimum 30 percent effective tax rate on all adjusted gross income. For taxpayers making between $1 million and $2 million, the bill includes a phase-in period that results in marginal tax rates well in excess of existing tax rates. While the Buffett tax does make some allowance for charitable contributions, the value of all other deductions and credits, including Section 179 small business expensing and other business deductions, would be reduced or eliminated under this tax.
The business community’s opposition helped to defeat the legislation, which lost on a procedural vote 56-38 (60 votes were necessary for the legislation to move forward).
So the Buffett tax has stalled for the moment, but the effort to raise tax rates on Main Street businesses will continue. The Senate has repeatedly attempted to pay for new spending in the past couple years by raising tax rates on individuals and pass-through businesses. The current Senate leadership supports significantly higher tax rates and that support has already resulted in the tax hike on S corporations following the fiscal cliff negotiations, as well as the new 3.8 percent investment tax used to help pay for health care reform. Both of these tax increases took effect at the beginning of 2013 and resulted in top rates for Main Street businesses rising from 35 percent to nearly 45 percent.
Now they want more, and they will continue to press for more, until the business community steps up and says “enough.” If it makes sense to reduce tax rates on corporations to “make American businesses more competitive” why doesn’t that same argument apply to pass-through businesses employing the majority of private sector workers? As we have made abundantly clear, pass-through businesses pay more in taxes, they employ more people, and they are the heart and soul of nearly every community in America. The S corporation community is 4.6 million strong. It’s time the Senate started to appreciate that.