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November 15, 2013

Ending tax breaks eyed as way to ease budget cuts

WASHINGTON — Democrats’ new mantra in budget talks is to close tax loopholes for certain businesses, investors and professionals as a way to raise more revenue to help ease autopilot spending cuts that soon are to become more painful.

On their list: Deductions for corporations that pay executives in stock options instead of salaries, reduced tax rates for hedge fund managers and private equity advisers, avenues for escaping corporate taxes on foreign profits, and provisions that help doctors, lawyers, consultants and others who incorporate themselves avoid Medicare taxes.

Democratic budget negotiators in Congress see cutting these and other tax breaks as a politically popular way to raise revenues and ease spending cuts without further swelling the deficit. Republicans say they are open to ending some special tax breaks, but they insist the new revenue be used to lower tax rates, not to increase spending.

The dispute played out this week as the negotiators tasked with merging competing budgets written by House Republicans and Senate Democrats met for only the second time in public.

“You can’t raise taxes high enough to satisfy the appetite of Washington to spend money,” Sen. Chuck Grassley, R-Iowa, said. “Closing loopholes are very legitimate. The tax code is a mess, but closing tax loopholes to spend more is not going to have long-range good results because you get the higher level of expenditure.”

The disagreement could doom prospects for averting a second round of automatic spending cuts in January. Those negotiators already have pretty much given up hope of reaching a longer-term budget accord for reducing deficits years into the future.

Democrats are circulating a list of 12 tax breaks labeled “egregious loopholes that Republicans should either bring to the negotiating table or explain to the American people why they can’t find a single loophole to close to get a bipartisan deal.”

The list reads more like talking points than substantive proposals. The White House previously has endorsed some of the ideas, but absent better prospects for a new longer-term deal for reducing deficits, they’ve remained on the shelf.

Sen. Patty Murray, D-Wash., the Senate Budget Committee chairwoman, targeted two tax breaks in an op-ed article she wrote that appeared in The Washington Post last weekend: deductions for corporations that pay executives in stock options and a break that allows American corporations to avoid U.S. taxes on the profits of foreign subsidiaries.

Internal Revenue Service rules prevent publicly held corporations from claiming tax deductions on pay in excess of $1 million for certain executives, essentially adding a surcharge to wages above the threshold.

Some corporations get around the rule by paying executives in stock options. Limiting deductions for these stock options would raise as much as $50 billion over the next decade, according to estimates by Democratic congressional aides.

The other tax break Murray mentioned allows U.S.-based corporations to avoid paying taxes on the profits of some foreign subsidiaries by classifying them as separate entities on tax forms. Limiting the tax break, which has been dubbed “check-the-box,” would raise up to $80 billion over the next decade.

Among the other tax breaks Democrats are highlighting:

— Lower tax rates for hedge fund managers and private equity advisers. These financial advisers often report the fees they earn as capital gains, which have a top tax rate of 23.8 percent. If the income, known as “carried interest,” were taxed like regular wages, they would be taxed at a top rate of 39.6 percent.

Taxing carried interest as regular income would raise $16 billion over the next decade, according to President Barack Obama’s 2014 budget proposal.

—Wealthy entrepreneurs, consultants, lawyers, doctors and other professionals can avoid Medicare payroll taxes by setting up corporations and accepting the bulk of their compensation as business income instead of wages. All wages are subject to the 2.9 percent Medicare tax. An additional 0.9 percent tax is applied to wages above $125,000 for a single person and $250,000 for a married couple filing jointly.

Business income, on the other hand, is not subject to Medicare taxes. Ending this tax break would raise about $12 billion over the next decade, according to an estimate by Democratic congressional aides.

—The mortgage interest deduction for vacation homes and yachts. Taxpayers can deduct mortgage interest paid on second homes, including mobile homes, house trailers, boats or similar property that has sleeping, cooking and toilet facilities, according to the IRS. Limiting the deduction for second homes would raise as much as $15 billion over the next decade.

—U.S. companies in general don’t have to pay U.S. taxes on foreign earnings until they bring those earnings back to the U.S. However, U.S.-based corporations can finance expansion of overseas operations with debt, and then deduct the interest on that debt before reporting any foreign income for tax purposes. Obama’s 2014 budget request proposes to raise $36 billion over the next decade by limiting this tax break. Democratic congressional aides estimate they can raise $50 billion.

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Follow Stephen Ohlemacher on Twitter: http://twitter.com/stephenatap

 

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