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On July 22, the S Corporation Association hosted a webinar showcasing a recent survey that asked voters about President Biden’s tax plan. The results were eye-opening and revealed a remarkable lack of support for the President’s agenda, especially those policies targeted at individually- and family-owned businesses. On hand to discuss the findings was David Winston, whose firm research and polling firm, The Winston Group, conducted the survey.
A summary of the results is available here.
To view a recording of the webinar, please click below:
The Gazette features an op-ed by S Corporation Association President Brian Reardon on how Americans really feel about raising taxes on individually- and family-owned businesses and farms:
The Senate needs to decide how to pay for the massive, $3.5 trillion spending plan announced last week, but according to a Punchbowl News poll, only 37% of congressional staffers believe it is likely Congress will pass a tax bill by the end of 2022. Among Democratic staffers, just half think it is likely.
Why so pessimistic? Maybe because Biden’s tax plans aren’t popular with voters. Contrary to what the White House might tell you, a new poll conducted on behalf of the S Corporation Association confirms that American voters do not support aggressive tax policies or those that target individually- and family-owned businesses and farms.
Changing the way we tax capital might be popular in some circles, but it is clear that voters don’t like the particulars. For example, the Winston Group asked voters whether they support the idea of applying two layers of tax on an estate when the owner dies — a new, higher capital gains tax on any appreciated assets, and then the traditional estate tax on the remainder of the estate. This “double death tax” is a core component of the Biden tax hike plan, but just 25% of voters favored the idea, while nearly 60% opposed it.
Another new idea is the mark-to-market taxation of unrealized capital gains. The plan would force investors and business owners to calculate their total net worth every year and then pay a tax on any increase, even if the gain exists on paper only. This policy would be a cornerstone to a significant hike in the capital gains rate, but it is unpopular with voters. Just 24 percent agree that unrealized gains should be taxed annually.
Expanding the death tax itself is not very popular either. More than six in ten voters said no to the simple question, “Do you favor or oppose increasing the estate tax, which taxes a person’s assets after death?” This should not be a surprise really. Americans have never liked the estate tax – they think taxing a lifetime of savings after a person dies is unfair and un-American.
After hearing they would apply to farms and family-owned businesses, respondents strengthened their opposition to increasing the top individual rates, doubling the capital gains tax, and capping the Section 199A pass-through deduction. These proposals are key parts of President Biden’s proposals, but they have never caught favor with voters. Perhaps that’s because more than 60 percent of voters believe existing taxes and regulations make it difficult for average Americans to start their own business. Increasing them would make it worse.
S-Corp has had 24 hours to digest the Section 199A bill introduced by Senator Wyden yesterday, and the more we look, the less we like it. Here are some additional thoughts:
Not an Expansion
Wyden’s office says the bill would raise $147 billion over ten years. That is a large tax hike in anybody’s book, but you wouldn’t know that reading the media coverage, where the bill has largely been framed as an “expansion” of Section 199A, not a roll-back. For example, here’s Law360:
Sen. Ron Wyden introduced a bill Tuesday that would let owners of service businesses, like law firms and accounting firms, claim a pass-through tax deduction created in 2017.
The Small Business Tax Fairness Act would remove restrictions that prevented service business owners from taking the 20% deduction provided under Internal Revenue Code Section 199A for certain income from pass-through businesses. The change would allow owners of businesses such as law firms and accountant firms to claim the deduction while phasing out the incentives for individuals with incomes above $400,000. (Emphasis added)
That’s the equivalent of leading a report on the Titanic by observing that the iceberg survived. The point of the Wyden bill is to eliminate the Section 199A deduction for larger businesses and raise lots of revenue. That has to be the lede of any reasonable coverage. The expansion of the deduction for taxpayers making less than $400,000 is extremely limited and hardly worth the headline.
Less Than Meets the Eye
Just how limited? Section 199 applies to all qualified business income for businesses owners making less than an income threshold indexed to inflation. In 2022, accountants and lawyers making less than about $335,000 should be eligible for the full 199A deduction. The Wyden bill would increase the threshold to $400,000. That is it. As Richard Rubin with the Wall Street Journal tweeted yesterday:
This is good for some lawyer/accountants. Individual lawyer making $350k today gets no 20% break. Would under Wyden. Bad for very large pass-throughs that qualify now (big S corp manufacturers).
The only way the manufacturer identified by Rubin gets the 199A is if they have lots of employers and/or capital investment. Those employment limitations don’t apply to Wyden’s revised deduction, so Wyden favors accountants and lawyers who may or may not create jobs and punishes manufacturers who create lots of them?
Violates the Biden $400k Pledge
Another nuance that escaped our attention yesterday is that the Wyden bill would violate the President’s pledge not to raise taxes on taxpayers making less than $400,000 a year. How? His bill would preclude trusts and estates from the 199A deduction:
(ii) APPLICATION TO TRUSTS AND ESTATES. — Section of such Code is amended by adding at the end the following new subsection:
‘‘(j) DEDUCTION FOR QUALIFIED BUSINESS INCOME. — No deduction shall be allowed under section 199A to an estate or trust.’’
Including trusts and estates in the 199A deduction was a big fight during the TCJA debate (see here, here, and here) that wasn’t resolved until the conference report. The rationale for excluding trusts and estates was never articulated, whereas the case for including them is plain to anybody engaged in family businesses. As S-Corp wrote to the TCJA conferees:
Many family businesses will pay higher taxes under the Senate bill… because it precludes trusts and estates from using the deduction. This is not a small issue – every family business subject to the estate tax has these trusts. They are designed to help the business survive from one generation to the next and have nothing to do with income taxes. Most of these trusts already pay tax at the highest rates.
The conferees ultimately decided this issue in our favor. Now, four years later, Senator Wyden would reverse this policy and exclude trusts and estates from receiving the 199A deduction. But as practitioners know, having the stock of a family business held in a trust is common practice and is not limited to large businesses. Family businesses of all sizes use them, so excluding them from the deduction will inevitably hit smaller businesses and lower income owners – just the people President Biden promised to protect.
Massive Rate Hike
Also lost in the Wyden bill’s coverage is where it would leave tax rates on pass-through businesses. The bill is part of a larger package to be considered by Congress, including:
- Raising the top individual tax rate from 37 to 39.6 percent, while lowering the rate’s threshold to $509,300.
- Expand the application of 3.8 percent surtaxes (NIIT, SECA, HI) to all forms of business income, including LLCs and the active owners of S corporations and partnerships.
For a manufacturer over the threshold and getting the full deduction, their top tax rate would increase from 29.6 percent all the way up to 43.4 percent.
These new, higher rates would apply to a significantly larger tax base. Base broadening under consideration includes repealing like-kind exchanges and making permanent the TCJA’s loss-limitation rules, on top of prior base-broadening from the TCJA, including the new 163(J) interest deduction cap, the new Loss Limitation/NOL rules, the new cap on SALT deductions, repeal of the old 199 deduction, and repeal of the Section 212 deductions.
The net result is a top tax rate 13.8 percentage points higher imposed on a significantly expanded income tax base. This is not a modest policy. It is a direct assault on family businesses nationwide. Next time members of the press write about it, they might try interviewing some affected businesses. At the very least, they might avoid describing a massive tax hike merely as an expansion of an existing tax benefit.
Last month, over 100 trade associations voiced their strong opposition to changes to the Section 199A pass-through deduction. Their message was clear: now, more than ever, businesses across the country are relying on Section 199A to stay afloat.
Despite this broad opposition, Finance Committee Chair Ron Wyden today announced that he was pressing ahead with a bill to phase out the deduction for taxpayers with incomes over $400,000, while eliminating it altogether for those with incomes exceeding $500,000.
Section 199A offers business owners a 20-percent deduction on their qualified business income, but the benefit is phased out for “specified service” trade or business owners (such as lawyers and doctors) making over $315,000 (joint filers in 2018). For qualified businesses whose owners’ incomes exceed those thresholds, the deduction is limited to half of the W-2 wages paid, or 25 percent of W-2 wages plus a portion of the company’s capital expenditures.
In other words, Section 199A is designed to be laser-focused on job creation and investment. For business owners above the threshold, the only way to receive the deduction is to go out, invest and create jobs. According to the Senator, however:
Few policies showcase Republicans’ commitment to giveaways to the top 1% like the pass-through deduction created in their 2017 bill. The mega-millionaires get to write-off 20% of their income while middle-class accountants are cut out. This makes no sense, and my bill would overhaul the deduction to ensure it’s benefiting Main Street small businesses.
Senator Wyden would divide the business world into two divergent groups: billionaires on one end and small startups on the other. That simply is not how the business community is organized, and his bill will hurt the employers – and their workers – who occupy the middle. These businesses number in the hundreds of thousands and they employ millions of workers. The 199A deduction is designed to reduce their effective tax rates, but only to the extent they employ people and/or have significant levels of investment.
Meanwhile, although the bill is advertised as expanding the credit to middle-class accountants and other service providers by doing away with the rules that block service businesses from receiving the deduction, those restrictions don’t apply to business owners making less than about $325,000 (joint filer), and the restrictions are phased out as income dips below $425,000, so the population of actual beneficiaries is going to be limited to a very small range of service providers.
Finally, the bill includes other changes that should alarm business owners. For example, estates and trusts would no longer be eligible for the deduction. This restriction was part of the original Senate bill back in 2017, but it was removed when the sponsors realized just how many family businesses are held in trusts – not for tax purposes, but to ease the transition from one generation to the next. Eliminating trusts would punish thousands of established, family-owned businesses for no good reason, and it will hit a large number of owners whose incomes are well below $400,000 a year.
Pass-throughs comprise 95 percent of all businesses in this country and employ the majority of private-sector workers. For these firms, Section 199A enables them to keep more of what they earn and to reinvest in their employees and the communities they serve.
Rather than “overhauling” and improving the deduction, Sen. Wyden is seeking to do away with the very features that make it effective. The changes he proposes won’t bring fairness to the tax code; instead, they amount to a direct tax hike on America’s Main Street businesses and would result in fewer jobs, lower wages, and less economic growth.
Our latest podcast guest is Ryan Ellis, President of the Center for a Free Economy and an IRS enrolled agent. Ryan gives us his take on a proposal to increase IRS funding and create new bank reporting requirements, recent “tax gap” estimates, and the fate of the $3.5 trillion budget agreement unveiled earlier in the week.
This episode of Talking Taxes in a Truck was recorded on July 14, 2021, and runs 26 minutes long.