What Will the New Administration Bring?
As the dust settles on the 2008 elections, we embark on the era of hope and change. What can taxpayers hope will—and won’t—change in 2009?
The Democratic Party enters 2009 with a decisive legislative edge, and arguably a sweeping policy mandate, but how will the new president and new Congress actually govern?
After taking control of Congress in the 2006 elections, the Democrats made no effort to repeal the Bush Administration’s tax cuts, although that would have been a quixotic effort given Bush’s veto pen. How will the Democrats behave with its new muscular majorities and an executive in office who is decidedly friendly to their interests?
Will the President-elect seek a pragmatic middle ground? As the transition process moves along, a number of commentators feel that Mr. Obama is doing just that, hiring some “moderate” Washington insiders with Clinton Administration ties, tapping the president of the New York Federal Reserve as the Treasury Secretary nominee, and is even keeping Bush’s Defense Secretary. Some on the far left indeed feel slighted, complaining, “Liberals left out of Obama’s cabinet.”
Obama and his transition team has even floated the idea of keeping President Bush’s tax cuts intact through 2009, delaying tax increases for at least a year. It is a stunning concession to the recent economic upheaval, especially given the many months of let’s-raise-taxes-on-the-rich rhetoric from Mr. Obama’s campaign.
Will something completely unexpected happen? While there have been tax surprises from past presidents (see below), sometimes they do just what they said they would do. Presidents Reagan and Bush Jr. both campaigned on tax cut platforms, and both delivered soon after their inaugurations.
President-elect Obama had campaigned on promises of a middle-class tax cut coupled with tax increases on the “wealthy,” usually defined as “anyone making over $250,000 per year,” although lower levels were occasionally bandied about by Mr. Biden.
Lower income “taxpayers” were promised refunds. This is essentially a proposed expansion of the earned income tax credit, where low income workers currently get a refund of up to about $5,000. Many in the lower income tiers pay little or no income taxes anyway, so the proposal indeed has a tinge of “spread the wealth” flavor.
Middle income taxpayers were promised a tax cut. Mr. Obama’s campaign proposal was essentially to keep the current tax brackets of 10%, 15%, 25% and 28%. These brackets are already in place under existing law for 2008 and 2009, but they are scheduled to automatically revert in 2010 back to the higher levels from 2000 without further congressional action. For 2009, the 28% bracket reaches up to taxable income of about $209K for a married couple, $172K for a single taxpayer.
Towards the upper end of the income spectrum, the current 33% bracket would increase to 36%. The 35% bracket (in 2009, for taxable income over $373K married, $186K single) would increase to 39.6%. Augmenting these increases would be reductions (“phase-outs”) of personal exemptions and itemized deductions. Consequently, the highest effective federal income tax rate would be over 40%.
Alternative minimum tax…oh, the horror! Most PP&Co clients know this tax all too well. Congress has already passed a temporary “patch” in AMT, increasing the exemption amounts that reduce or eliminate AMT for some taxpayers—however; the patch is for 2008 only. The Obama proposal would be keep the AMT, but to make the patch permanent. Note that the increase in regular tax rates (max. 39.6%) would keep some higher income taxpayers out of AMT entirely, given that their “regular” tax would be higher than the “alternative” tax.
Capital gains…ah, the memories. Although realizing a capital gain is becoming scarce in the current environment, an increase in long-term capital gains rates is proposed. Most taxpayers are now taxed at 15% for long-term capital gains and qualified dividends. These would be taxed at 20% under the plan Obama campaigned on.
Business taxes. Senator Obama had spoken in general terms of lowering the corporate tax rate, as long as unnamed “loopholes” are closed. He apparently supports keeping the current $250K limit for first-year expensing (“Section 179”) of equipment purchases for 2009, as well as making the R&D credit permanent.
Estate tax. Under current law, the year in which someone dies can have a dramatic tax impact on the tax borne by the estate: the exemption is $2 million for 2008, increasing to $3.5 million in 2009, is completely repealed in 2010, but then returns in 2011—with an exemption of only $1 million. Obama’s campaign had proposed a $3.5 million exclusion.
Other non-specific proposals included a possible healthcare credit for small business, education tax credits, tax-free unemployment benefits (for 2008 and possibly 2009), and “green” energy incentives.
With respect to Social Security taxes, during the campaign Mr. Obama was “considering” an extra 1% to 2% withholding on employees on the portion of their wages in excess of $250K per year, “to be phased in over many years.” Employers would match the extra withholding. Self-employed individuals would pay both portions.
Apparently this means that employees earning wages up to about $107K (based on the 2009 limit as currently constituted) would pay Social Security at a 6.2% rate. Wages between that amount and $250K would pay zero additional Social Security. The portion of one’s wages over $250K would incur Social Security tax in the 7% to 8% range.
Keep in mind, however, that Social Security is known as the “third rail” of American politics: anyone who touches it dies. The political graveyard is indeed filled with many a miscreant politician who dared to propose even the mildest adjustment to the Social Security regime.
Will the new president keep his word, at least with respect to where he promised vote-getting tax reductions? Will he seek additional tax increases unmentioned in the campaign? History provides cautionary counsel.
George Bush Sr. had campaigned on the, “read my lips, no new taxes!” pledge, but while jogging a couple years later, told reporters to “read my hips” and pointed to the appropriate portion of his anatomy. Days later he signed a tax increase bill. Many of us remember Bill Clinton’s promised middle-class tax cut. It was part of his standard stump speech and a central theme to his campaign. Within a month after taking office, however, he announced to the nation that although he had “never worked harder in my life,” he could not implement his tax proposal; rather, a retroactive tax increase was enacted for 1993. Both men paid dearly in political terms: Bush lost his job and Clinton lost the congress.
Will President Obama defy history and keep his word? One can hope.
David Cooper, PP & Co CPA, Manager
