H.R. 9 (112^th): Small Business Tax Cut Act

GovTrack’s Bill Summary

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Library of Congress Summary

The summary below was written by the Congressional Research Service, which is a nonpartisan division of the Library of Congress.

House Republican Conference Summary

The summary below was written by the House Republican Conference, which is the caucus of Republicans in the House of Representatives.

This summary can be found at http://www.gop.gov/bill/112/2/hr9.

Background

H.R. 9 would allow small businesses with less than 500 employees to take a tax deduction equal to 20% of their active business income. The bill would allow the deduction for 20% of qualified domestic business income of the taxpayer for the taxable year, or taxable income for the taxable year, whichever is less. The deduction would be limited to 50% of a qualified business’ total W-2 wages. Under the bill, the deduction would apply to all qualifying small businesses for the current tax year, regardless of how they are organized, including “C” corporations and other entities taxed at the individual tax rate. The deduction would only apply with respect to the first taxable year of the taxpayer beginning after December 31, 2011. According to the Joint Committee on Taxation (JCT), H.R. 9 would reduce taxes on small businesses by $45.9 billion over ten years.

The following background was provided by the Majority Leader’s office:

The best way to boost economic growth and get people back to work is through small business growth. Over the past 17 years, small businesses with fewer than 500 employees have generated 65% of the new jobs in this country. As the U.S. Small Business Administration Office of Advocacy shows, small businesses represent 99.9% of the 27.5 million businesses in America and employ about half of all private sector employees. Yet, small businesses can be subject to tax rates that siphon away one-third or more of their income. The Small Business Tax Cut Act will allow small businesses to take a tax deduction equal to 20% of their active business income. This will immediately free up funds for small businesses to retain and hire new employees.

Current Tax Burdens On Small Businesses: Current marginal tax rates mean that small businesses are faced with enormous burdens that are sapping capital, resources and time. Irrespective of whether they pay taxes at the corporate or individual level, small businesses can face up to a 35% federal tax rate. Further, small businesses spend three times more per employee on tax compliance than larger businesses do. Once Japan implements a lower corporate tax rate, many small C corporations will pay the highest corporate tax rate among the major economies of the world. Additionally, the individual tax rates that apply to small pass-through businesses (e.g. S corporations and partnerships) are scheduled to increase significantly in 2013 under the President’s Budget Proposal.

How The Small Business Tax Cut Act Works: Our 20% small business tax cut goes straight to the bottom line so small business owners can retain more capital, invest in their businesses and create more jobs. Small businesses would be allowed to deduct 20% of their income from taxes irrespective of how they are organized, up to 50% of their W-2 wages (in some cases distributions made to partners may be treated as W-2 wages for these purposes). So, whether you are organized as a corporation or you are one of the 75% of small businesses that operate as a pass-through, you will benefit from this new deduction.

For simplicity, consider the example of a small business that under current law would pay a 35% federal tax on $100 of income, resulting in a $35 tax bill. Under the House Republican proposal, the small business would be able to deduct 20% of its income from tax (20% of $100 = $20), subject to the 50% W-2 wage limitation. The small business would then pay the same 35% tax on the remaining $80, resulting in a $28 tax bill. Under the House Republican proposal, the small business immediately saved $7 in federal taxes.

Restrictions: Eligible small businesses must have fewer than 500 employees. The 50% W-2 wage limitation is similar to the limitation under the domestic manufacturing deduction (section 199).

In addition, the Majority Leader’s office prepared the following charges and responses to respond to false Democrat assertions about the bill.

Claim: “Nearly half of the tax break would go to  millionaires.”

Fact: This charge is based on a flawed Tax Policy Center (TPC) study. While acknowledging that the proposed tax relief is available to small business employers irrespective of whether they are organized as a pass-through (and thus pay their taxes through the individual tax code) or a C Corporation (and thus pay their taxes through the corporate tax code), the TPC study elected to assign all of the benefits of the tax relief under the bill for C Corporations to the individuals who own stock in those companies, even though the tax relief is received by the small business corporation. It is important to remember that the Small Business Tax Cut is limited to certain employers and capped at 50% of W-2 wages paid, so it is specifically designed to benefit these small business employers. Assigning the benefit to C Corporation stockholders does not only result in a distorted analysis, but also one that ignores the specifics of the legislation. When the non-partisan Joint Committee on Taxation (JCT) produced its distributional analysis it did not assign the benefit received by C Corporations to shareholders. The JCT found that less than 20% of the benefit would go to taxpayers with adjusted gross income in excess of $1 million.

Claim: The proposal would provide tax relief to “multibillion-dollar hedge funds, law firms and other enterprises that create significant profits with few employees.”

Fact: Tax relief under the Small Business Tax Cut is specifically capped at 50% of W-2 wages paid by the small businesses. Therefore, the ability of any firm to benefit from this tax relief is directly tied to the amount of wages they pay their employees. Further, while it is accurate that law firms and professional small businesses could be eligible for relief under this proposal, these very same entities would also be eligible for tax relief under the President’s proposal to provide tax relief for employers that increase their payroll. Senator Schumer is reportedly introducing a proposal similar to the President’s as the Democrat alternative to the Small Business Tax Cut Act.

Claim: “The proposal would benefit sports teams, celebrities, smut peddlers, etc.”

Fact: The Small Business Tax Cut is available to all small business employers with fewer than 500 employees. The proposal does not attempt to pick favored and non-favored industries. Interestingly, the President’s proposal to provide tax relief to employers based on an increase in wages paid also didn’t attempt to pick favored and non-favored industries and thus would also be available to “sports teams, celebrities, and smut peddlers, etc.” Senator Schumer is reportedly introducing a proposal similar to the President’s as the Democrat alternative to the Small Business Tax Cut Act.

Claim: Under this proposal, a business wouldn’t have to hire additional workers or increase payroll to receive the tax benefit.

Fact: Rather than micromanaging small business from Washington, we recognize that small business owners know their needs better than politicians in Washington. Some small businesses will hire workers, others will increase the wages they pay their current employees, others might use the tax relief to help keep a current employee on the job, and still others will use it to buy new equipment (which in turn will help another business and their employees). Linking tax relief to following certain rules from Washington just makes our small businesses less efficient and makes an incredibly complicated tax system even more cumbersome.

Claim: The Small Business Tax Cut isn’t offset.

Fact: The Small Business Tax Cut is consistent with the House Budget Resolution, which reduces spending by $5 trillion relative to the President’s budget. Furthermore, the deficit is a result of overspending by Washington and those concerned about the deficit will have an opportunity to vote in the next month on a package of mandatory savings that will achieve nearly $200 billion in deficit reduction.

Summary

H.R. 9 would allow small businesses with less than 500 employees to take a tax deduction equal to 20% of their active business income. The bill would allow the deduction for 20% of qualified domestic business income of the taxpayer for the taxable year, or taxable income for the taxable year, whichever is less. The deduction would be limited to 50% of a qualified business’ total W-2 wages. Under the bill, the deduction would apply to all qualifying small businesses for the current tax year, regardless of how they are organized, including “C” corporations and other entities taxed at the individual tax rate. The deduction would only apply with respect to the first taxable year of the taxpayer beginning after December 31, 2011. According to the Joint Committee on Taxation (JCT), H.R. 9 would reduce taxes on small businesses by $45.9 billion over ten years.

Cost

According to JCT, H.R. 9 would reduce taxes on small businesses by $45.9 billion over ten years.

House Democratic Caucus Summary

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We’ll be looking for a source of summaries from the other side in the meanwhile.