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5 hurdles in the race to pass tax reform by Christmas

In this Sept. 26, 2017 photo, Rep. Kevin Brady, R-Texas, right, listens as President Donald Trump speaks during a meeting with members of the House Ways and Means committee in the Roosevelt Room of the White House in Washington. (AP Photo/Evan Vucci)

As the House of Representatives accelerates toward a possible vote on its tax reform bill by the end of the week and the Senate Finance Committee begins marking up its own version of the legislation, Republicans are closer than ever to accomplishing the kind of reforms they have long promised conservatives, but the road ahead is still long.

The current versions of the House and Senate bills both drastically cut the corporate tax rate, eliminate most deductions, and reduce taxes for most working families, and both would cost about $1.5 trillion over ten years without accounting for economic growth.

“Both plans make large steps forward in simplifying to the tax code for the majority of Americans, while also lowering tax rates,” said Nicole Kaeding of the Tax Foundation. “It lowers the U.S. corporate tax rate, which is currently uncompetitive internationally. The plans also allow for full and immediate expensing of capital, eliminating a bias in the tax code. Both plans are pro-growth, creating jobs, and raising incomes for Americans.”

After accounting for optimistic models of economic growth, the Tax Foundation estimates the House bill would result in nearly $1 trillion less in tax revenue over ten years, and the Senate bill would reduce revenues by $516 billion.

Other economists argued the tax cuts are unfairly weighted toward the wealthy, will leave millions of middle-class families paying higher taxes, and will inevitably result in cuts to federal social programs to stave off the predicted deficits in the future.

“Both of these plans as introduced would make the tax system less fair and both would cost a lot of money,” said Matt Gardner, a senior fellow at the Institute on Taxation and Economic Policy.

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Some of the differences between the House and Senate bills are small. For example, their increased standard deductions are only a few hundred dollars apart. Others are potentially intractable.

These are five major areas of proposed reforms and the differences that will eventually need to be addressed to get it to the president’s desk.

HOUSE

1. Corporate Rates: One of the biggest components of both bills is the reduction in the corporate tax rate from 35 percent to 20 percent. Republicans say this is necessary because the current nominal tax rate is among the highest in the industrialized world and leaves U.S. businesses at a competitive disadvantage.

Under the House bill, the change would be immediate beginning in 2018. The Tax Foundation estimates this would reduce tax revenues by $1.536 trillion over a decade on a static basis and $662 billion after accounting for its predicted economic growth.

2. Deductions: Most itemized deductions are eliminated, including those for higher education and medical expenses, while the standard deduction is nearly doubled to $12,200 for individuals and $24,400 for couples. Charitable deductions are still allowed, and mortgage interest can be deducted on debt of up to $500 million on primary residences only.

The House would also repeal deductions for state and local income and sales taxes, but property taxes up to $10,000 would still be deductible.

3. Child Credits: Although both bills eliminate personal and dependent exemptions, they also increase the child tax credit. The House raises the credit to $1,600 per child under 17, with up to $1,000 of that refundable, in addition to a $300 credit for other dependents. It also increases the income level at which the credit phases out to $115,000 for individuals and $230,000 for couples.

4. Estate Tax: The House bill doubles estate tax exemptions to $11.2 million for individuals and $22.4 million for couples immediately and then completely repeals the tax in 2024. The Tax Foundation estimates this would reduce revenues by $160 billion over ten years on a static basis and $118 billion using dynamic scoring.

Republicans say the tax on large multimillion-dollar estates is unfair and hurts some small business and farm owners. According to CNN, only 682 estates subject to the tax in 2016 had any farm income at all, and for most of those, the farm assets were only a small percentage of the estate.

5. Pass-Through Income: Under current law, many small businesses pay taxes at the individual tax rate, meaning so-called “pass-through businesses” can end up taxed at the top marginal rate of 39.6 percent. The House bill would set a rate of 25 percent for passive owners, while active owners who materially participate in the business would pay a maximum effective rate of 35.22 percent.

However, the Tax Policy Center estimates nearly 90 percent of pass-through owners already pay 25 percent or less under current law, so wealthier investors may be the ones who benefit most from the cut.


SENATE

1. Corporate Rates: Unlike the House bill, the Senate bill delays the corporate rate cut until 2019, a move that economists say only makes sense as a way to stay under the $1.5 trillion cap set by the budget resolution. The Tax Foundation estimates this would cost $626 billion over ten years, taking into account a 2.7 percent increase in GDP.

2. Deductions: The Senate preserves more deductions than the House in general, but it completely eliminates the state and local tax deductions. The Senate allows mortgage interest deductions on debt up to $1 million and applies to primary residence and one other residence, but it does not touch deductions for higher education and medical expenses.

3. Child Credits: The Senate increases the credit to $1,650 per child under 18, with a $500 credit for non-child dependents. It also raises the phase-out level to $500,000 for single filers and $1 million for couples.

The Center on Budget and Policy Priorities estimates refundability provisions will leave millions of families that earn too little to pay income taxes only receiving an additional $75, while families making nearly $1 million would get the full $1,650 credit.

4. Estate Tax: Giving in to demands from moderates, the Senate bill does not eliminate the estate tax. It does double the exemptions, though, meaning the first $11.2 million for individuals and $22.4 million for couples would be untaxed and anything above that would be taxed at 40 percent.

According to the Tax Foundation, this reduces revenue by $57 billion over ten years on a dynamic basis, less than half the impact the House bill’s delayed full repeal would have.

5. Pass-Through Income: The Senate approach to pass-throughs allows for 17.4 percent of income to be deducted and the rest taxed at individual rates, leading to an overall top rate of 31.8 percent.

Gardner called the distinction in approaches to pass-through income “almost a philosophical difference” that could be messy to iron out.


OBSTACLES

Once both chambers approve their own bills, a conference committee will need to stitch together something that can get the support of 218 House members and 50 senators (plus the vice president).

Republicans have imposed a deadline of Christmas on themselves. In order to accomplish that, they have six weeks to overcome all of these potential roadblocks.

1. SALT: House Ways and Means Committee Chairman Kevin Brady, R-Texas, said Sunday that he cannot imagine the bill getting through the House without preserving the property tax deduction. Some Republicans from high-tax states like California and New York were mollified by the $10,000 property tax carve-out, but others have already jumped ship.

“While the Senate could adopt the House’s provision, the Senate would need to identify more base broadeners to satisfy the Byrd Rule,” Kaeding said. “This is a difficult political choice for leaders of both chambers, but it is just one of many hurdles ahead to secure passage.”

Michael Leachman, director of state fiscal research for the Center on Budget and Policy Priorities, said the difference may be smaller than it seems, since the doubled standard deduction is intended to make the property tax deduction moot for most who currently claim it.

“The way it works is that, for one thing, most taxpayers who are using the property tax deduction now wouldn’t be able to use it anyway,” he said.

The larger problem is that eliminating the state income tax deduction has ramifications for state budgets, and a lower federal tax bill matters little if state taxes go up.

“If you take away the deduction, it makes it harder for states over time to raise the money that they need through the income tax,” Leachman said.

The result would likely be states shifting to more regressive sources of revenue or collecting less in taxes overall, which could potentially lead to a reduction in programs and services.

2. Reconciliation: The Byrd rule in the Senate severely restricts what provisions can be included in a bill passed through reconciliation, and the overall package must be deficit-neutral beyond a ten-year budget window.

“Neither the House or Senate plan is currently compliant with the Byrd Rule, so it remains to be seen how the Senate plans to navigate these challenges,” Kaeding said.

According to Gardner, reconciliation rules will constrain negotiations, but there is some room to maneuver. He noted that both bills already rely on a number of “budgetary gimmicks” to get where they are, though.

“In both houses, the bills are already designed to fit two bags of sugar into a one-pound bag,” he said.

Senate Finance Committee Chairman Orrin Hatch, R-Utah, said Monday that Republicans “have every intention” of making the business tax cuts permanent. Other Republicans have cast doubt on the likelihood that other measures will be allowed to sunset in the future either, meaning the eventual cost of the tax reform package would be higher than projected.

3. Holdouts: Ultimately, the reconciliation issue only comes into play if Republicans are able to get 50 senators on board in the first place, and with a two-vote majority, that is far from assured.

Many senators have issued demands that would almost certainly be unacceptable to the House or some of their Senate colleagues. It is unknown if any of them are willing to kill an enormous tax cut package over them, though.

Sen. Bob Corker, R-Tenn., has said he will not support a bill that increases the deficit. Sens. Marco Rubio (R-Fla.) and Mike Lee (R-Utah) have insisted on a larger child tax credit. Sens. Ted Cruz (R-Texas) and Rand Paul (R-Ky.) are still pushing for even bigger cuts. Sen. Susan Collins, R-Maine, a moderate who helped sink health care reform earlier this year, does not want taxes to be cut at all for those making over $1 million.

4. Roy Moore: Also looming over the debate is the suddenly volatile Alabama Senate race. The outcome could leave Republicans with one less seat to work with as of Dec. 12.

Another woman came forward Monday and accused Republican nominee Roy Moore of sexual misconduct when she was a teen. He is still leading in some polls, but prominent Republicans are pulling their support and Democrat Doug Jones now has a plausible path to victory.

According to Alabama political expert and columnist Steve Flowers, Jones would replace Republican Sen. Luther Strange immediately if he prevails, cutting the GOP majority to 51.

5. Trump: Tax reform’s biggest cheerleader could prove one of the biggest wildcards in the debate. On Monday, he again threw his weight behind tacking the Obamacare mandate repeal onto the bill. The Congressional Budget Office estimates this would reduce the deficit by $338 billion over ten years but would result in 13 million more uninsured. Critics say it could also result in higher premiums for those on the health insurance exchanges.

In the long, failed fight to repeal the Affordable Care Act earlier this year, the president often sent mixed messages to lawmakers in person, in the press, and on Twitter. At one point, he told senators the House health care bill that he had championed in a Rose Garden celebration was too “mean.”

Trump is now the driving force behind the promise to pass tax reform by Dec. 25 as a “Christmas present” to the middle class. With both chambers aiming to push their version of the bill through by the end of November, that is not entirely off the table, but some say it is still a longshot.

“It would be pretty unprecedented if a meaningful reform were to be enacted before Christmas,” Gardner said. “Real reform takes time, it’s horse-trading, it takes real thought and it takes planning.”

If President Trump is intent on fundamental once-in-three-decade reform, there are a lot of special interest to satisfy in a very small window of time. If they want the path of least resistance, he and the GOP could settle on cutting corporate and individual rates.

“If Congress abandons the pretense of tax reform and decides they just want to cut taxes…that seems like a scenario where they could meet a Christmas deadline,” Gardner said.

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