Ongoing Changes to Senate Tax Bill

November 29, 2017

With just a few days before a planned floor vote, Senate Republicans are working to make changes to their tax reform proposal in the hopes of trying to sway at least a half-dozen Senate holdouts. Senate Republicans can only lose two votes and still pass the bill by the end-of-the week.

Two critical Republican swing votes, Senators Ron Johnson (Wis.) and Steve Daines (Mont.) have been vocal in the possibility that they would vote against the tax plan if changes weren’t made to their liking. Specifically, they are seeking more generous tax treatment for pass-through businesses because they claim the current form of the bill does not cut taxes deeply enough for pass-through entities. Sens. Johnson and Daines worry corporations will see a far bigger tax cut, putting pass-throughs at a competitive disadvantage.

The Senate bill currently approaches the pass-through issue by taxing pass-throughs at ordinary income tax rates but give them up to a 17.4 percent deduction for qualified pass-through income. It tries to prevent wealthy individuals from gaming that by requiring people claiming the deduction to pay wages to someone else, and also by declaring those in certain industries ineligible for the break. It waives those requirements for people earning less than $500,000.

Senate Republicans say the House plan does not do enough to help small businesses, as the House plan cuts the pass-through rate to 25 percent. But many pass-throughs already pay 25 percent or less — 90 percent of sole proprietorships have $100,000 or less in receipts — so they wouldn’t benefit from the House’s reduced rate. Many pass-throughs also object to the House’s 70-30 split between which money gets the special low rate and what doesn’t.

Under the Senate plan, it doesn’t matter how much you make — everyone can get up to a 17.4 percent deduction. It also has much looser guardrails to prevent gamesmanship, which pleases pass-throughs that don’t want to be inhibited from taking the lower rate but worries some experts who say it will inspire new tax-avoidance efforts. However, the Senate plan also doesn’t cut taxes on pass-throughs as deeply as the House. A 17.4 percent deduction, combined with Senate Republicans’ top individual rate of 38.5 percent, means the highest-earning pass-throughs would pay a roughly 32 percent rate assuming they can fully take advantage of the deduction. Not everyone will qualify for the entire deduction because it is 17.4 percent of their income or half the wages they paid, whichever is lower. So if someone had $100 in income and only paid $20 in wages, then they’d get a $10 deduction, not $17.40.

Critics of the Senate plan say they’d pay even more because pass-throughs lose a deduction for state and local taxes while corporations would be allowed to continue taking that break. And unlike Republicans’ proposed corporate tax rate cut, the Senate’s pass-through plan would expire after 2025, though lawmakers predict it would ultimately be extended.

The changes Sens. Johnson and Daines want are expensive, and tax-writers would have to find savings elsewhere to ensure the bill ultimately costs no more than $1.5 trillion over a decade as required under a budget framework. They have roughly $60 billion they can still spend, so they don’t have a lot of room to maneuver.

Despite these hurdles, Senate Republicans and the Administration are fairly optimistic about the tax overhaul’s prospects of passing in the Upper Chamber later this week. On Nov. 28, the Senate Budget Committee advanced the tax bill, by a party-line vote of 12-11. Now the Senate will proceed to floor debate on the proposal on Wednesday.

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