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Wait, What???

May 28, 2024|

Under the category of “Care to elaborate?” this month’s CBO analysis of the fiscal cliff costs includes estimates of the Section 461(l) excess loss provision that are, shall we say, significantly revised. The new numbers are much more believable, but they do beg the question of what took the JCT so long to rework their original estimates.

To review, the TCJA capped the ability of pass-through business owners to deduct their active business losses. Under the old rules, those losses could immediately offset other forms of owner income (wages, capital gains, investment income, other business income, etc.).  This approach was consistent with the concept of an income tax, where taxpayers should be taxed on their net income. It also reflected good tax policy, as it produced counter-cyclical results – taxes on business income went up during the good times and declined during the bad ones.

Then somebody decided to cap these deductions to address…well, we have no idea what the point was. The result was Section 461(l) where any active business losses exceeding $500,000 would have to be carried forward and treated as a net operating loss in the following year. The effect was to delay, by perhaps a year or two, the ability of business owners to deduct some of their losses.

It also meant that the counter-cyclical treatment of losses was turned on its ear. Now when the economy goes south and businesses start losing money, their taxes go up, not down.  That’s what is known as bad tax policy.

Fueling the provision were JCT revenue estimates so outrageous that almost nobody bothered to ask how a simple timing change could produce so much revenue. The initial JCT score back in 2017 was $176 billion over eight years!  That was later revised down to $137 billion, but it went up again in the final conference report to $150 billion, or about $18 billion per year.

These eye-popping scores set the stage for the soap opera that occurred during the COVID pandemic.

The CARES Act was designed to help families and businesses during the COVID shutdowns.  One of its provisions relaxed the net operating loss rules (including the excess loss rule) to allow businesses to get refunds from prior years.  As the Obama administration described similar provisions during the financial crisis, it all was pretty standard stuff:

The Economic Recovery Act included a provision that allowed small businesses to count their losses this year against the taxes they paid in previous years. Today, the President extended that benefit for an additional year and expanded it to medium and large businesses as well….This provision is a fiscally responsible economic kick-start, putting $33 billion of tax cuts in the hands of businesses this year when they need it most, while enabling Treasury to recoup the majority of that funding in the coming years as these businesses regain their strength and resume paying taxes.

Pretty standard, except for the score. According to the JCT, a one-year suspension of the excess loss cap would reduce revenues by $158 billion!  So a provision that was supposed to raise $150 billion over eight years now was going to cost more than that if it was suspended for a year?  If this was true, then somebody was making out like a bandit, and it sure looked like rich people.  Cue the critics.  Here’s NPR:

[T]he only people that are going to benefit from this tax change are people that make at least half a million dollars in income outside of their businesses. And just to put that in context, that is literally the top 1% of U.S. taxpayers. So in other words, the government, in the CARES act, is going to give out $135 billion in tax relief only to people that make at least half a million dollars, only to the top 1% of taxpayers in this country.

And the Tax Policy Center:

Congress justified massive CARES Act tax relief for losses to infuse cash quickly to businesses, including “small” businesses. But providing cash to the wealthy via tax refunds is little more than a windfall. Congress should target relief to those truly small businesses that desperately need help.

Keep in mind the “massive” there is a reference to the JCT’s errant score, but the “windfall” critique is also in error. Say you run a large family business in a state where the governor has just mandated a pandemic shutdown. Your previously profitable business is now bleeding cash. Your doors may be closed but you still have to pay your employees and suppliers, cover rent, stay current on loans, etc. One option would be to fire everybody and ride out the crisis.

Another would be to sell other assets to stay liquid and keep people employed.  If you chose the latter, as many businesses opted to do, the old rules allowed you to deduct your business losses against any capital gains you incurred from the asset fire sale. The new rules, on the other hand, would have forced you to pay taxes on income you don’t have now and postpone the deduction of your losses until after the pandemic. Brilliant.

Fortunately for all those employees, the TPC and its allies failed to cancel the CARES Act relief.

The effect of the errant scoring wasn’t limited to press releases and shallow analysis. It moved policy too. During Senate debate over the Inflation Reduction Act, a successful amendment to shield private equity from the Corporate Alternative Minimum Tax (CMAT) used a two-year extension of the excess loss limitation as its pay-for. The CAMT relief reportedly cost $35 billion, while the JCT scored the extension at $53 billion.

Fast forward to this month’s CBO report and suddenly, absent any explanation, the scores on the excess loss provision have been revised down by a factor of nearly 10.

So a policy that the JCT scored as reducing revenues by $28 billion in 2029 now magically costs the government only $2.9 billion?  If only somebody had flagged this previously

How can a one-year suspension of a “timing” policy cost the federal government this much revenue? The answer is we have no idea, but the next step in this debate should be a full accounting of the committee’s revenue estimate.

We still would like an explanation. We would also like a redo on the Inflation Reduction Act amendment.  According to today’s revised estimates, that result was a fraud.

In the private sector, economic modelers who want to get published are required to be transparent and provide both their data and their methodology.  Perhaps it’s time to apply these same rules to the CBO and JCT?

The Bull Case for a Bipartisan Fiscal Cliff Deal

May 20, 2024|

For years we’ve been sounding the alarm over the 2025 “fiscal cliff,” a watershed moment that will force lawmakers to address a litany of expiring tax provisions or risk a massive tax hike on families and Main Street businesses.  Below is a look at what’s at stake for Main Street businesses and our bull case for Congress taking action next year.

Sunsets and Families

One TCJA myth is that it benefited big corporates and billionaires only. That’s simply not true. Much of the tax relief targeted at corporations and wealthy individuals was paired with significant revenue raisers, while the tax relief targeting low- or modest-income families was largely free of offsetting provisions.  The result was a clean tax cut for families of modest means but a mixed bag for wealthier taxpayers.

Low-income families benefitted from lower tax rates, a higher standard deduction, and a larger child tax credit. The recent CBO analysis put the cumulative benefit of those provisions at over $4 trillion. Subtract out the rate relief going to higher-income taxpayers and still you’re left with a multi-trillion-dollar tax cut for taxpayers of modest means, largely devoid of any offsetting raisers.

The benefits accruing to upper income taxpayers, on the other hand, are more complicated. The lower rates and individual AMT relief they got were substantially offset by the new SALT cap, the loss of Section 212 deductions, a cap on the mortgage interest deduction, and other provisions. For those taxpayers, how they fared depended on many factors, including where they live, how many children they have, and how they make their money. Some did well, but others saw their taxes go up.

This means allowing the TCJA provisions to expire as scheduled would result in tax cuts for many high-income taxpayers but significant tax hikes for families of more modest means.  This reality is the first reason we are confident that Congress will act next year to prevent us from going over the cliff.

The Main Street Time Bomb

We all know the Section 199A small business deduction and lower pass-through rates are scheduled to sunset at the end of 2025. If they do, any semblance of parity between pass-throughs and public C corporations will be eliminated, inflicting large tax increases on millions of Main Street businesses located in every single community in America.

As with the individual relief, however, the pass-through discussion is more nuanced than the headlines would suggest. That is because, as with the individual tax provisions, the lower rates and 199A deduction were largely offset – this time by the SALT deduction cap, the elimination of the old 199 manufacturing deduction, the new excess loss limitation, the new 163(j) cap on interest deductions, R&E amortization, etc.

This chart using the JCT’s 2017 estimates is a rough effort to illustrate how the benefits and costs were distributed.

These are back-of-the-envelope estimates, but you get the picture. Smaller enterprises got a clean tax cut while the results for larger enterprises depended on a multiplicity of factors, including where they operate. (It was this result that motivated S-Corp to engage in our successful SALT Parity campaign.)

Moreover, the revenue raisers in red stay in place post 2025. We’ve written about this dynamic for over a decade now (here, here, here, here, here) but it continues to be neglected in the general tax conversation. The Main Street Employers Coalition got its start not to advocate for tax cuts, but rather to avoid the very tax hikes we now face post-2025.

The bottom line is if we go over the cliff, businesses of all sizes will see their tax burden go up – not just relative to today, but relative to the pre-TCJA Tax Code.  That’s the second reason we are confident Congress will act next year.

Not Just Business Relief

Finally, there’s more at stake next year than expiring tax relief, including the pending sunset of expanded Obamacare tax credits. Here’s Forbes on the expiration of these credits:

In early 2021, Congress significantly increased subsidies for people who purchase coverage through the exchanges. In the Inflation Reduction Act, Congress maintained these higher subsidies through 2025. These higher subsidies present several major problems, but they have led to about 3 to 4 million additional exchange enrollees. Since nearly 2 million people who lose Medicaid from the redeterminations are projected to enroll in subsidized exchange coverage, CBO projects that overall Obamacare exchange enrollment will rise to 17.9 million people in 2025 (up from 15.2 million this year). CBO projects that the loss of the enhanced subsidies will cut exchange enrollment to 12.8 million in 2027. 

Five million people losing their health coverage is bound to get somebody’s attention.

So is the expiration of WOTC and other worker, community, and renewable energy deductions and credits.  The recent CBO report on next year’s cliff highlighted $199 billion of these, including credits for advanced manufacturing, clean fuel production, clean vehicles, energy efficient home improvements, among others. These expiring provisions enjoy bipartisan support and are the third reason we are optimistic Congress will act next year.

Bipartisan Reasons for Action

The point of all this is that there are strong reasons why members of both parties will act to avoid next year’s fiscal cliff. A failure to act would result in tax hikes on millions of low-income families, tax hikes on millions of Main Street businesses, and the loss of health insurance for millions more. It’s a pretty compelling set of incentives for action.

Talking Taxes in a Truck Episode 37: Carol Roth Explains Why It’s Time to Repeal the CTA

May 6, 2024|

Our latest podcast guest is Carol Roth, a New York Times bestselling author, small business advocate and most recently, a staunch ally in the fight to repeal the burdensome and ill-conceived Corporate Transparency Act.

Carol starts by talking about how her time in the investment banking world exposed her to the uneven playing field between small businesses and larger corporations, and how that experience led her to become a Main Street advocate. Later she dives deep into the CTA and its onerous reporting requirements, her recent testimony on Capitol Hill that focused on the new statute, and the many compliance horror stories she’s heard from small business owners nationwide.

Be sure to connect with Carol via CarolRoth.com/news or on X (@CarolJSRoth)

This episode of Talking Taxes in a Truck was recorded on May 6, 2024, and runs 41 minutes long.

House Small Business on CTA

April 30, 2024|

With the Corporate Transparency Act in effect for several months now, the House Small Business Committee convened to discuss how the rollout of the new law is going. The short answer – not so good.

The hearing featured testimony from three small business stakeholders who covered everything from compliance costs to legal and cybersecurity risks posed by the reporting requirements.

The first witness was Carol Roth, whose advocacy on behalf of the Main Street business community we’ve covered previously. Asked by Congressman Dan Meuser whether Treasury had reached out to affected businesses to help them understand their new compliance obligations, she responded:

Not that I’m aware of, and certainly not with the small business owners that I’ve spoken with. For my written statement for the record I submitted almost 450 statements from small business owners across the country who are vehemently opposed to the CTA. Most of them, when I’ve raised this through the media or other ways they’ve come in contact with me, had never heard of it. They also have no idea who FinCEN is

…Your average small business owner is just trying to stay afloat, and isn’t familiar with that division of Treasury. And when they find out they ask, Why is it that the Financial Crimes Enforcement Network is asking for my information? So, the communication hasn’t been there.   

Next was Tim Opsitnick, a member of the National Small Business Association and owner of Cleveland-based Technology Concepts & Design whose practice focuses on cybersecurity and data privacy. Tim drew on his background in commenting on the various cyber risks posed by the CTA:

Let me stress – we do not know the database is secure. We further know that the information and/or access to the database will be shared. Every time an owner shares their information, the risk that it will be misused or lost to the dark web significantly increases. FinCEN’s own website opens with an alert about fraudulent solicitations under the CTA.

According to NSBA research, the average cost to remedy a small business data breach is $15,297. In my experience, this is low. I have seen small companies face costs over $100,000. Regardless, either figure could cripple many small businesses, who are cash-flow-sensitive. Small businesses cannot afford to be vulnerable: the majority of small businesses that suffer a breach will be out of business within six months.

The third hearing witness was Roger Harris, an attorney and the president of Padgett Business Services, who refuted the government’s talking point that noncompliance will not be prosecuted:

It’s going to depend on their definition of “willful.” I wish FinCEN was as good at offering definitions of what constitutes willful as Mr. Kalman, because we’ve asked for that guidance and haven’t received it. I’m not sure anyone is out to penalize small businesses just for the sake of penalizing them. But as long as that threat hangs over them, small businesses and firms like ours are going to have to be cautious in how we interpret the law.

Harris raises an important point that deserves to be amplified. The position of CTA supporters appears to be that most violations of the CTA’s requirements will be accidental and would not rise to the level of willful.  But one of our complaints of the CTA is how difficult it is to comply, even if you make a reasonable attempt.

For example, the owner of five fast-food franchises will have to report the BOI of himself and anyone that exerts “substantial control”.  Exactly what “substantial control” means is famously vague, so it is up to the owner and his advisors to make a determination. Let’s say he decides to report the BOI of the Managers of each franchise, but not the Assistant Managers.

Is that the right decision?  Who knows – it will have to be litigated — but what we do know is that it was willful and, therefore, if the owner got it wrong, he’s liable for five counts of failing to comply.

This brings us to the last highlight of the hearing — Congressman Blaine Leutkemeyer’s reflection on how the legislation he once supported has morphed into a compliance nightmare for millions of small businesses:

I’m an interesting guy to be here because I was a sponsor of the Corporate Transparency Act, and my intention was to minimize the effect this had…[The Financial Crimes Enforcement Network] doesn’t need this. They have tools in their toolbox to go to court and get the warrants they need to be able to investigate.

So lots of heartburn and little comfort over the CTA, particularly as lawmakers hear firsthand how businesses are faring under the new compliance regime. The more light we can shed on this poorly-conceived law, the more likely it is that lawmakers provide the relief their constituents badly need.

Main Street Backs CTA Repeal

April 29, 2024|

Today over 100 trade associations, representing millions of small businesses nationwide, strongly supported legislation introduced by Representative Warren Davidson (R-OH) to repeal the Corporate Transparency Act (CTA).

Appropriately named the “Repealing Big Brother Overreach Act”, the legislation would put an end to the onerous and poorly-conceived reporting regime that targets virtually every small business operating in America. That effort will also be joined by Senator Tommy Tuberville (R-AL), who plans to introduce a companion bill in the Senate early next week.

By way of background, the CTA took effect this year and requires small businesses and other covered entities to report the personal information of their owners and managers to the Financial Crimes Enforcement Network at the Treasury Department. As we’ve written extensively, the CTA saddles law-abiding business owners with compliance headaches and criminal penalties while doing little or nothing to combat illicit activity.

The letter signed by NFIB, The Real Estate Roundtable, the National Association of Wholesaler-Distributors, and dozens of other groups, makes clear that CTA is poor policy that needs to be reconsidered:

Despite its unprecedented scope, we expect the CTA to be of little practical use to law enforcement, as criminals are unlikely to accurately self-report their information to FinCEN.  Meanwhile, because the CTA targets entities with low revenues and few employees, the brunt of its reporting burden and excessive penalties will be shouldered by law-abiding, Main Street businesses.   

Last month, the District Court for the Northern District of Alabama ruled the CTA exceeded the Constitution’s enumerated powers and was therefore unconstitutional, but the resulting injunction applies to the plaintiffs only – members of the National Small Business Association. As a subsequent notice from FinCEN made clear, all other covered entities are still required to file their BOI reports by the end of the year.

The bill introduced by Congressman Davidson would put an end to this unprecedented data grab by repealing the CTA in its entirety. Repeal would give Congress the opportunity to craft a better approach that addresses our national security needs while balancing them with the interests and rights of law-abiding small business owners.

The introduction of this legislation coincides with a Tuesday hearing at the House Small Business Committee to examine the failed rollout of the CTA. As many lawmakers look for ways to implement minor improvements to the CTA, the Davidson bill is a helpful reminder that there is nothing so useless as improving something that shouldn’t be done in the first place. Congress should have never enacted the CTA.  This is an opportunity to address that mistake.

Click here to download a copy of the final letter

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