Latest on Payroll Tax Hike and Extenders

Earlier today, the Senate voted earlier on its version of the “extenders plus” bill passed by the House a few weeks back. The vote, on a motion to waive a Budget Act point of order, failed miserably (45-52), indicating the Senate Leadership has a long way to go before they gather the sixty votes necessary to move forward.

With this morning’s vote behind us, the process moving forward is becoming clearer–Finance Chairman Max Baucus (D-MT) is expected to introduce a new substitute today. According to BNA:

Baucus is expected to draw up a new substitute amendment that will be a slimmed-down version of what the Senate defeated. That plan would have added $84 billion to the federal deficit, a figure that Republicans, and some Democrats, said was too high to stomach. Baucus has previously said that he would continue to work with senators of both parties to find 60 votes. Issues that could be modified to secure votes include Medicare reimbursement rates for physicians, unemployment insurance benefits, Medicaid funding to states, and possibly language making it more difficult for S corporations to avoid paying employment taxes.

As BNA indicates, the new effort will likely include a modified payroll tax hike. As with the House-passed provision, however, the new tax has been written behind closed doors and without the benefit of public scrutiny. It might be better than the flawed House effort, but we simply won’t know until it’s offered.

The next key vote will take place tomorrow, when the Senate considers Senator John Thune’s (R-SD) alternative “extender plus” package. This package includes all the tax extenders the business community wants, but strikes all the tax hikes the business community opposes (including striking the $11 billion payroll tax hike). Instead, all the tax relief and spending in the package are offset with spending cuts. As with today’s vote, Senator Thune is not expected to get 60 votes tomorrow, but we’re betting he does better than the 45 votes Senator Baucus got today.

Meanwhile, Senator Olympia Snowe (R-ME) continues her fight on behalf of S corporations. As CongressDaily reported this morning:

Snowe is upset about an $11 billion tax increase on small services firms organized as S corporations; Baucus is preparing some tweaks to that provision, and the chamber’s 63-33 adoption of an amendment she co-sponsored to establish an office within the Treasury Department to help homeowners struggling with mortgage payments can’t hurt. Democratic aides said they still have some work to do on their side of the aisle before working to assuage GOP holdouts.

The S corporation community owes Senator Snowe a big debt. Meanwhile, with the first Baucus substitute gone and the second version to be introduced, we will just have to wait to see what they have in mind.

Stimulus Deal Announced

As the news reported over the last couple of days, Administration and House leaders have agreed to a package of temporary tax relief to provide the economy with fiscal stimulus. As reported, the package would reduce revenues by about $150 billion over ten years. The major provisions are:

  • Rebate checks (tied to a temporary cut in the 10% tax bracket) to families – $600 for singles making less than $75,000 and $1,200 for couples earning less than $150,000.
  • Fifty percent bonus depreciation for business investment through the end of 2008.
  • An increase in small business expensing (section 179) from $125,000 to $250,000.
  • A temporary increase in the conforming mortgage limit from $417,000 to $625,500.

Hill leadership has pledged to take up the agreement quickly and get something to the President in the next four weeks.

Couple of observations: the negotiations took place between the Secretary of Treasury and House Leadership. Senate Leadership chose not to be part of the mix. Apparently, in an effort to encourage a conclusion to the discussions, Senators Reid and McConnell removed themselves from the room and pledged to take up whatever the remaining negotiators could agree to.

Pledging to take up the House-passed package, however, is the not the same as guaranteeing its adoption without changes. We expect to see considerable effort on the Senate side to amend the agreement. Republicans will likely attempt to strike the income caps for families receiving checks while Democrats will push to add extended unemployment insurance benefits (UI) to the mix. The Senate Finance Committee has scheduled a markup of its own stimulus plan – details uncertain – for next week.

One challenge facing advocates of extending UI is that unemployment continues to be historically low at just 5 percent. Two decades ago, that was considered full employment. And while the percentage of long-term unemployed workers is higher than in the past – meaning those workers who have lost their jobs are having a more difficult time finding a suitable replacement – weekly jobless claims are hovering around 300,000 for the past couple weeks, nowhere near the 400,000 to 450,000 level usually associated with a deteriorating job market and recession.

Nonetheless, expect the UI issue to be fully debated in the Senate, and if history is any guide, an extension of UI benefits is likely to be part of the package that goes to the President. Perhaps a trade combining the UI extension with the elimination of the income caps is in the cards.

Built-In Gains and Stimulus

As the Senate considers what else should go into the stimulus agreement worked out this week, the S Corporation Association and its allies have been pushing to add relief from the built-in gains tax (BIG) as a means of freeing up much needed capital.

According to government statistics, hundreds of thousands of S corporations nationwide are potentially sitting on assets that they would like to sell in order to grow their businesses and create jobs, but they can’t because of the prohibitive tax implications of BIG.

This “lock-in effect” results in billions of dollars in assets being used at less than their full potential. This can have a particularly adverse impact on S corporations since, as closely-held businesses without access to the public markets; they have fewer options for raising capital. In an economy where a one or two percent decline in growth can mean the difference between a recession and a moderate, mid-term slowdown, eliminating that lock-in effect and allowing those assets to become fully productive again could be significant.

Bipartisan legislation to reduce the harmful impact of the built-in gains tax has been introduced on the House side by Congressman Steve Kagen (D-WI) and Ways and Means Members Ron Kind (D-WI), Jim Ramstad (R-MN) and Phil English (R-PA). The bill, H.R. 3874 would reduce from 10 to 7 years the holding period required for built-in capital gains.

On the Senate side, Finance Committee Members Lincoln, Hatch, and Smith all have a history of supporting this reform, and we expect to see legislation introduced in that body in the near future. If the Senate is intent on attaching additional items to the stimulus deal, this is one provision that promises big benefits to the economy and job creation relative to its revenue impact.

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