Vice President Biden campaigned on a number of tax proposals:
- Raise the corporate rate from 21% to 28% “on day one”
- Increase the Global Intangible Low Taxed Income rate from 10.5% to 21%
- Create a new corporate alternative minimum rate of 15% on financial statement income over $100 million
- Increase the top individual rate and capital gains rate to 39.6%
- Re-impose the 12.4% Social Security payroll tax on incomes earned above $400,000
However, if Republicans control the Senate, none of this is likely to happen.
Several of Vice President Biden’s ideas carry over from the Obama Administration and next year’s dynamic of split control is similar to those of the last four years of the Obama Administration. But, we should never forget that Vice President Biden was the Obama Administration’s “Senate Whisperer.” He spent decades in the Senate, and it was Vice President Biden who negotiated the 2012 Fiscal Cliff deal with Republican Leader McConnell that made permanent the temporary 2001-2003 Bush middle class tax cuts but increased the top individual rate to 39.6%.
In 2012, however, the 2001-2003 rate cuts were going to expire. No such dynamic will exist over the next four years.
The individual rate cuts from the Tax Cuts & Jobs Act of 2017 (TCJA) do not expire until 2025, which is the first year of Vice President Biden’s second term or the first year of the subsequent President’s first term. The issue of tax rates will not “ripen” during the next four years.
Nonetheless, there are tax increases from TCJA that Congress needs to address next year. In 2022, TCJA imposes a 4-year amortization of research and experimentation expenses in lieu of deducting those expenses in the year in which they were paid. This will create a cash-flow crisis for research-intensive companies.
Similarly in 2022, new limitations become effective for interest expense deductions. The cap on the deductions drops from EBITDA (earnings before interest, taxes, depreciation, and amortization) to a lower EBIT number. This restricts the deduction for companies that borrow to invest in depreciable or amortizable U.S. assets, such as factories, distribution centers, equipment, or intellectual property.
These were difficult policy choices that were forced into law under TCJA’s budget reconciliation process.
Democrats view TCJA’s State & Local Tax Limitation (SALT) deduction as a unfair policy decision. However, repealing SALT would distribute tax benefits primarily to upper income individuals. Some have suggested reinstating the individual alternative minimum tax (AMT) to offset this benefit, The individual AMT was repealed in TCJA, and reinstatement will be opposed by Republicans. There are easier areas of bipartisan tax agreement, however.
One leading area is reform of the retirement savings system. Chairman Neal and Ranking Member Brady of the House Ways & Means Committee recently introduced the bipartisan Setting Every Community Up for Retirement Enhancement (SECURE) 2.0 Act.
Similarly, Senator Portman (R-OH) and Senator Cardin (D-MD) introduced a comprehensive bipartisan retirement savings reform bill, and both Senators sit on the Senate Finance Committee. Retirement savings enhancement is an area with bipartisan and bicameral support.
It is also possible we could see tax changes if the ACA is struck down by the courts, or if Congress needs to enact economic recovery legislation due to COVID-19. The latter bill is more likely to provide tax relief than tax increases.
Infrastructure is frequently mentioned as a potential tax increase vehicle, but if you examine H.R. 2, the Moving Forward Act passed by House Democrats in 2020, you will see it is funded through:
- Private Activity Bonds, Build America Bonds, and Advance Refunding Bonds
- Highway Trust Funding through taxes on diesel fuel, motor fuels and alcohol fuels; sales taxes on trucks and semitrailers; special heavy vehicle use taxes; tire taxes; and possible gas tax increase
While some may not be pleased with these funding proposals, it is notable that corporate rate increases were not proposed by the House Democratic caucus to pay for infrastructure.
So where is the soft edge in possible revenue raisers over the next two years? Wealthy individuals. The wealthy have long been a target of Democratic concerns regarding income inequality, and the New York Times’ reports on President Trump’s tax returns contribute to the perception that the U.S. tax rules benefit the wealthy. Tax increases on the wealthy are difficult to oppose politically, but what gets lost in the rhetoric is that over 50% of all business income in America is reported on an individual tax return, rather than a corporate return, due to the proliferation of pass through business entities, such as S corporations and partnership structures. These entities do not pay taxes themselves but pass along the tax liability from the business to their owners who pay the tax on an individual tax return. So individual rate increases are to a certain extent indirect tax increases on business activities.
Overall, we expect tax changes over the next two years to be quite targeted and limited. It is unlikely that wholesale tax reform will occur with a split control between Republicans and Democrats.