When Congress returns from summer recess in September, members will debate the future of the 2001 and 2003 Bush tax cuts which expire at the end of 2010.  The stakes are high as Congress must decide which provisions will be allowed to expire, which will be extended and whether the extensions will be permanent or temporary.  Perhaps the most contentious issue will be whether to extend tax breaks for the wealthiest two percent of taxpayers. Separating facts from myths about the impact on small businesses will be important. Advocates want to include in the tax bill a permanent extension of improvements in refundable credits critically important to low-income families that were made in the American Recovery and Reinvestment Act (ARRA) in 2009.
The 2001 and 2003 tax cut bills signed into law by President Bush included changes in income tax brackets, capital gains and dividends, the so-called ‘marriage penalty,’ the estate tax, and the Child Tax Credit (CTC).  Key changes were made to the income tax brackets in the 2001 law adding a new 10 percent bracket, maintaining the 15 percent bracket and lowering the 28, 31, 36, and 39.6 percent brackets to 25, 28, 33, and 35 percent respectively. In 2003, the maximum capital gains rate was lowered from 20 to 15 percent and the maximum rate on dividends was lowered from 39.6 to 15 percent.   Beginning in 2003, the standard deduction for married couples filing jointly increased from 1.67 times that for single filers to twice as large.  Changes made in the 2001 law called for a gradual reduction in the maximum estate tax rate to 45 percent in 2009 with the exemption increasing to $3.5 million (or $7 million for a couple). (Note that the effective estate tax rate is much less than 45 percent because of tax strategies widely used in planning estates.)  As called for in the law, in 2010 the estate tax was allowed to be repealed.  Most in Congress believe the estate tax should be retained but agreement could not be reached on the exemption level or the rate.  If Congress does not act, in 2011 the estate tax would revert back to the 2001 tax cut law setting the exemption level at $1 million per spouse and a maximum rate of 55 percent.

The CTC was raised from $500 to $600 per child in 2001 and to $1000 in 2003.  The refundable portion of the child tax credit available to low-income families with no or limited income tax liability was increased from 10 percent to 15 percent of earnings exceeding $10,750 in 2003. But every year the minimum earnings threshold increased based on an inflation adjustment.  A substantial change was made in ARRA, allowing all earnings over $3,000 to be counted in calculating the credit.  A family working full-time at the minimum wage with two children currently receives a child tax credit of about $1750.  If Congress does not act to extend the ARRA improvement in its tax bill, the same family will receive less than $250 because the credit would revert back to being calculated at 10 percent of inflation-adjusted earnings exceeding $12,850.  The child tax credit provides a strong work incentive and reduces poverty.  If the improvement expires, 600,000 more children would fall into poverty and, according to the Tax Policy Center, 8 million children would lose their credit entirely and 10 million more would lose some of it.

ARRA also improved the Earned Income Tax Credit (EITC) which is intended to supplement low wages and reduce the tax burden on low-income workers.  The law increased the amount available to families with three or more children and reduced the ‘marriage penalty’ by increasing the amount received by married couples.  Currently it seems likely that the change in the marriage penalty will be included in the tax bill, affecting 8.7 million children.  There is less of a consensus in Congress around including the additional amount available for families with more than two children, but advocates are working to include the provision.

The estate tax has long been contentious.  In recent years attempts by estate tax opponents to repeal the tax or make it even more generous to beneficiaries have failed.  At the same time, many advocates prefer a lower exemption than $3.5 million per spouse as was law in 2009 and a rate higher than 45 percent for very large estates.  In June, Senators Harkin (D-IA), Sanders (I-VT) and Whitehouse (D-RI) introduced The Responsible Estate Tax Act, S. 3533, which maintains the 2009 exemption level and rate for estates valued at less than $10 million and taxes those between $10 million and $50 million at a 50 percent rate and estates above $50 million at a 55 percent rate with an additional surtax of 10 percent for estates worth more than $500 million ($1 billion for couples).  The legislation also contains provisions to protect family farms and small businesses.  Many in the advocacy community have come together to support this compromise approach to taxing wealth that might otherwise totally escape taxation.

President Obama is proposing to make permanent the 2001 and 2003 tax cuts that apply to those individuals with earnings under $200,000 and couples with earnings of less than $250,000 – 98 percent of all taxpayers – allowing them to continue paying the rates they currently pay on income tax, capital gains and dividends.  He would permanently extend the ARRA improvements in the CTC and EITC, and he supports maintaining the 2009 estate tax rate, with the $3.5 million/$7 million exemption level adjusted in future years for inflation.  Both the House and Senate have adopted a paygo rule which says that tax bills must be deficit-neutral.  However, Democrats in both chambers have voted overwhelmingly to waive the paygo requirement for the extensions supported by President Obama, except they would extend the estate tax for two years, not permanently.  In addition, they had voted to waive the paygo requirement for EITC marriage penalty relief, but not for the increase for families with more than two children.  Like the President, most Democrats support letting the top two income tax brackets revert back to 36 and 39.6 percent and restoring the capital gains and dividend rates for those with earnings exceeding $200,000/$250,000.  Wealthier taxpayers would, however, also benefit under the President’s plan because a portion of their income would be taxed at the lower 10, 15, 25 and 28 percent income tax rates.

Republicans are unified in their opposition to letting any of the Bush tax cuts expire.  Their tax proposals over the last several years call for making permanent all of the Bush tax cuts.  They have not expressed support for extending the CTC and EITC expansions in ARRA so many low- and moderate-income taxpayers would pay more under the Republicans’ plan.  In 2011, the richest one percent would still receive a generous tax cut under the President’s plan.  However, under the Republican plan their average tax cut would be $54,600 larger.  See the analysis by Citizens for Tax Justice which includes state-by-state figures.  Extending tax cuts for the wealthiest two percent would only exacerbate the ever-widening gaps in income between the wealthiest  Americans and everyone else and would add $700 billion to the deficit over 10 years.

Arguments for maintaining the upper-income tax cuts coalesce around the theme that tax cuts for the wealthy are good for the economy, and that a large percentage of the upper income are small business owners who create jobs.  Both arguments are lacking.  Wealthy people tend to save rather than invest.  Congressional Budget Office has rated extending the high-income Bush tax cuts as far less stimulative to the economy than increased aid to the unemployed, tax credits to create jobs, infrastructure spending, aid to states, and tax cuts for middle- and lower-income which includes 98 percent of taxpayers. The small-business argument is based on a distorted definition of small business owners which, in order to make the case, often includes partners in large firms, hedge fund managers, and even Fortune 500 members who have some business income for rental properties.  Citizens for Tax Justice calculates that only 5 percent of taxpayers with the majority of their income from small businesses would be wealthy enough to lose any money under the President’s plan.  Further, small businesses do not pay taxes on wages and benefits paid to workers nor on business expenses, but solely on profits.  Their hiring decisions are based on having customers for the products they make, not on tax brackets.  (See Citizens for Tax Justice report.)

The Senate plans to act first on taxes in September and the House will follow.  This quote from President Franklin D. Roosevelt seems apropos to the debate that will ensue, “The test of our progress is not whether we add more to the abundance of those who have much; it is whether we provide enough for those who have too little.”

Subscribe: