President Targets S Corps

President Obama announced yesterday his continued support for raising tax rates on Americans earning more than $250,000 ($200,000 for single filers). As the Wall Street Journal reported today, these policies would hit a large number of business owners:

Congress’s Joint Tax Committee -not a conservative outfit – estimates that in 2013 about 940,000 taxpayers will have enough business income to meet Mr. Obama’s tax increase threshold. And of the roughly $1.3 trillion in net business income, about 53% will get hit with the higher tax rates.

New numbers from Ernst & Young reinforce the impact these higher rates will have on S corporations and other pass-through businesses. According to Ernst & Young, business owners paying the top two rates earn:

  • 72 percent of all S corporation income;
  • 61 percent of all partnership income; and
  • 13 percent of all sole proprietorship income.

As you can see, S corporations are more at risk of a tax hike than other pass-through businesses. Moreover, the numbers show that the more formal business structures — partnerships and S corporations — are more likely to have incomes exceeding $250,000 than the less formal sole proprietorships. More than half the business income at risk is earned by S corporation shareholders.

(Just as a reminder, the Congressional Research Service found the top five industries represented by large S corporations were manufacturing, retail and wholesale, mining, transportation, and construction. Those are the industries at risk here.)

And this doesn’t account for the 1.2 million business owners who make more than the President’s threshold but pay the AMT instead. They too will be paying higher taxes though thanks to the President’s health care law and the new 3.8 percent tax on investment income.

S corporations employ one out of every four private sector workers. All pass-through businesses — including S corporations, partnerships, and sole proprietorships — employ one out of two. The President would raise taxes on most of their income.

We knew raising taxes on employers during a period of high unemployment was particularly dangerous. Now we have a better idea of just how dangerous.

More than Half of Small Business Income Targeted Under Obama Tax Hike

The S Corporation Association today responded to reports that President Obama would press to raise taxes on S corporation owners and other taxpayers earning more than $250,000 a year:

“Pass-through businesses like S corporations employ the majority of private sector workers. The President is proposing to raise taxes on a large number of their employers, putting those jobs at risk. According to the Joint Committee on Taxation, more than half of all pass-through income is taxed at the top two tax rates. Raising taxes on that much economic activity at a time when unemployment is already too high is harmful and dangerous. Instead of advocating for tax hikes, the President should embrace the House of Representatives plan to extend all rates for one year while putting into place a process for considering much-needed tax reform next year.”

 

ABC News on Pass-Through Tax Hike

A fact checker gets the jobs story right:

Baucus III

The tax community is still waiting for the third version of the Baucus substitute to be released. A “trial balloon” draft circulated yesterday made certain changes, but failed to address many of the sticking points holding up the overall bill.

Meanwhile, Senators Baucus and Reid spent most of yesterday negotiating with swing Republican votes — at this point, just Maine Republican Senators Olympia Snowe and Susan Collins — to identify what changes are necessary in order to gain the 59th and 60th votes needed. As CongressDaily reports:

The chief target appears to be $24 billion to extend higher Medicaid matching funds for six months, first authorized in the stimulus last year. Options floated Tuesday included phasing down the percentage boost and using untapped funds elsewhere in the Recovery Act for offsets. Snowe and Collins were noncommittal, having not seen details. Senior Democrats appeared resigned that the net cost of the Medicaid assistance would be scaled back. “They’re having to cut it back to try to get Republican votes, and it affects my state; it really affects Harry Reid’s state,” said Sen. John (Jay) Rockefeller, D-W.Va., who with Reid was an original lead Senate sponsor of the six-month Medicaid boost. “But it looks like the best we can get.”

The challenge for Senator Baucus is that the deficit spending in the package represents only half the opposition. There is a lot of opposition to the tax increases as well, including the payroll tax hike on S corporations and partnerships. Senator Snowe of Maine has led the fight to strike this provision from the bill. As The Hill notes:

Kyl said he isn’t sure winding down FMAP is the elixir Democrats think it is in garnering Republican support for the bill. “Whether that will satisfy more Republicans remains to be seen,” he said. “There are other issues with the bill as well, including issues related to the tax provisions.”

The current “K Street” rumor is that Chairman Baucus has been given a limited amount of time to round up the 60th vote. If he’s unable to do so, Majority Leader Reid would set the extender package aside and move on to other items. Whether the rumor is true or not (K Street rumors typically run about 50/50 on the accuracy dial), the clock is ticking.

In addition to Senate consideration, this bill would need to return to the House, where its adoption is by no means assured. If the House makes any changes, it would come back to the Senate. And then, since most of the spending and all the tax items expire before the end of 2010, we’d have to do it all over again before January.

We’ve observed previously that getting the entire business community to oppose a bill centered on extending business-friendly tax breaks is fairly remarkable. The current bill before the Senate is anti-business, and would need to be changed significantly before businesses could support it. It appears that several determined senators share those concerns.

Budget’s Impact on Employers

S-Corp allies over at the Manufacturer’s Alliance commissioned a new study on next year’s tax policy and what it means for S corporations and other business forms. Specifically, the study looked at the tax policies in President Obama’s 2011 budget and asked how these policies would impact economic growth and job creation. The verdict?

In terms of macroeconomic effects, the tax proposals in the 2011 budget are forecast to shave an average of 0.2 percent from annual GDP growth through the middle of the decade, resulting in $200 billion of foregone output and a net job loss of almost 500,000 relative to the baseline. Because taxable business revenues are highly concentrated in manufacturing firms, they will account for a disproportionate share of these output and employment gaps.

So despite much of the rhetoric coming from Washington these days, the rules of economics have not been turned on their figurative heads — the tax forecast for next year is higher tax rates imposed on a larger tax base, which means less investment and less job creation over time. Who will get hit the hardest?

The tax provisions of the 2011 budget will affect S corporations and other pass-through manufacturing firms much more heavily than both firms outside of manufacturing and C corporations within manufacturing. Pass-through businesses in the manufacturing sector will see their tax bills increase by an average of 14 percent. Given the growing importance of S corporations and partnerships to economic growth and job creation over the past 25 years, it is important to understand that tax increases intended to help contain deficits will exact a high price in terms of the competitive posture of U.S. manufacturing and the growth of the economy as a whole.

The study’s authors calculate that S corporations and other “pass through” firms will see their aggregate tax burden rise by $177 billion over the next ten years. Ouch.

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