Tax Overhaul Moves Closer to the Finish Line

Failure is not an option for the GOP.

Republicans in Congress are currently engaged in a push to pass the most significant tax overhaul bill since the days of the Reagan administration and send the bill to the White House for President Trump’s signature by the end of this year. They are looking to simplify the current overly burdensome tax system and to reduce taxes by as much as $1.5 trillion over the next ten years, with relief focused on middle class taxpayers and on businesses. 

In order to eliminate the possibility of a Democrat filibuster in the Senate, both congressional chambers have agreed on a budget blueprint that would permit them to pass the tax legislation with simple majorities under what is known as the Budget Reconciliation Process. That’s the good news. The problem is that before they reach the finish line, the Republicans need to reach consensus among themselves. Republicans are certainly aware of the high political stakes. They know they cannot afford to blow the chance that a major tax overhaul would provide to redeem themselves after their spectacular failure to repeal and replace Obamacare.

The tax bills currently working their way through the House of Representatives and Senate are rooted in broad principles both chambers and the White House agree upon, such as the need to cut business taxes to spur investment and create jobs at home, to simplify the tax system and to help the middle class. Yet, members of the Republican caucus are divided on how to pay for the tax cuts and on the amount of deficit increase they would be willing to tolerate.

The House Ways and Means Committee has approved the House version and sent the bill to the House floor for a vote as early as this week. The Senate bill, unveiled last Thursday, is currently before the Senate Finance Committee for markup. While directionally similar, the two bills differ on some significant details. Moreover, revisions may be needed to make sure that the final product complies with the requirements of the Budget Reconciliation Process, including rules against expansion of the budget deficits after the first decade. 

Both bills would cut corporate taxes from 35 percent down to 20 percent. However, the House bill would make the corporate tax cut effective in 2018. The Senate bill would defer the cut until 2019. Repatriation of currently deferred foreign profits is encouraged in both bills by relatively low, but not identical, one-time taxes.  

Small businesses, whether S corporation shareholders, partners of partnerships or sole proprietorships, would also benefit from tax reductions under both bills. However, the bills differ in how they would accomplish this objective. The House bill would set a maximum tax rate of 25 percent, rather than tax these businesses at the individual rate of their owners, with built-in protections to prevent abuse. The Senate bill would opt for a percentage deduction of business income instead.

The bills differ on the number of income tax brackets and their rate levels. The House bill contains four brackets: 12 percent, 25 percent, 35 percent and a top rate that stays at 39.6 percent for those earning over a million dollars. The Senate bill retains seven brackets, but lowers the highest bracket to 38.5 percent for high-income individuals and couples.

In an effort to help middle class taxpayers, particularly those with lower taxable incomes who do not normally itemize their deductions, both bills significantly increase the standard deductions for single taxpayers, heads of households and married couples filing jointly (with the House bill being slightly more generous in each case). Both bills would increase the child credit.

Both bills will hit those taxpayers especially hard who itemize their deductions and are from states with high income and property taxes. They are accustomed to deducting such state and local taxes on their federal tax returns. That will no longer be the case for state and local income taxes under either bill as presently written. The House bill would allow a property tax deduction up to $10,000, as a compromise to secure the votes of at least some Republican House members from high tax states such as New York and California. The Senate bill would not even do that, based on the political calculation that such high tax states all have Democrat senators who would not vote for the Republican-written tax bill in any case. 

What emerges from each chamber will be affected by a mix of lobbying to protect special interest sacred cows, compromises to bring wavering representatives and senators into the fold, and adjustments required to stay within the parameters of the Budget Reconciliation Process. Republicans will also have their eye on the political calendar, fearing blowback from inaction as well as from being painted as the protectors of the rich in today’s populist climate. 

The Democrats are trotting out their customary class warfare rhetoric, charging that the Republican tax bills in both chambers favor the wealthy at the expense of the low and middle classes. House Minority Leader Nancy Pelosi (D-Calif.) called the House bill “a Ponzi scheme that corporate America will perpetrate on the American people. In fact, it’s a giveaway to corporations and the wealthiest.” Senate Minority Leader Chuck Schumer (D-N.Y.) declared, “This bill is like a dead fish. The more it’s in sunlight, the more it stinks, and that’s what’s going to happen.” 

Economic growth, in President John Kennedy’s words, “lifts all boats.” According to the independent Tax Foundation, the Senate bill is projected to increase the gross domestic product by 3.7 percent over the next decade, raise wages by 2.9 percent and result in an additional 925,000 full-time equivalent jobs. It is also estimated to “spur an additional $1.26 trillion in federal revenues from economic growth.” The House bill is estimated to increase the gross domestic product by 3.6 percent. Nevertheless, as usual, the left prioritizes income redistribution above all else and ignores the fact that at least under the Senate bill, according to the bipartisan Joint Committee on Taxation, all income brackets will receive a tax cut, with the highest percentages clustered in the $20,000 through $100,000 income categories. To the extent those in the higher brackets would receive more tax cuts in absolute dollars is a function of the fact that they pay much more in absolute dollars in the first place. To mischaracterize this obvious economic truth as an unfair giveaway to the wealthy is sheer demagoguery.

It is possible, although unlikely, that a smattering of Democrat Senators up for re-election next year in states carried by Donald Trump would consider voting for some version of the Republican-sponsored tax cut legislation. Unless that happens, the Republicans in the Senate will have to make do with their own slim majority, which could be reduced to one if Roy Moore ends up losing the special Senate election in Alabama on December 12. Once again, as we witnessed with the failed attempt to repeal and replace Obamacare, a few Republican senators could derail the entire tax overhaul initiative for different reasons. Some Republicans are concerned about the expansion of deficits resulting from tax cuts that won’t pay for themselves. Others, such as Senator Marco Rubio ((R-Florida), are holding out for larger child tax credits. 

If both houses do succeed in passing their versions of the tax overhaul, any differences in the two bills will have to be ironed out in a conference committee. Another vote would then be needed in each chamber to approve any compromise version emerging from conference before it can go to President Trump for his signature.

The Republican majority cannot afford another failure if they want to avoid being swept out of office in 2018.