The House held a hearing Thursday to discuss small business perspectives on the tax cliff, hearing testimony from a representative of the American Institute of CPAs and other witnesses.
Jeffrey A. Porter, vice chair of the AICPA’s Tax Executive Committee, told the House Small Business Subcommittee on Economic Growth, Tax and Capital Access that Congress must reach agreement as soon as possible on expiring tax provisions because the current tax uncertainty is hindering business planning by small-business owners and threatening smooth administration of tax laws.
“Our members are receiving inquiries from their clients, sometimes on a daily basis, on whether the ‘Bush tax cuts’ will be extended, what will happen with estate taxes, how the ‘tax cliff’ will affect their businesses and whether a particular tax incentive will be extended another year,” Porter testified. “Any further delay will magnify the frustration of many small business owners.”
Currently, small businesses, formed as corporations, pass-through entities, or sole proprietorships, face great uncertainty with regard to income taxes in a multitude of areas, including income tax rates, long-term capital gains rates, the rate for qualified dividends, and whether, and to what extent, certain deductions and exemptions will be available, Porter noted.
“Regardless of whether you support or oppose an increase in income taxes, it is important to understand the significance of what is at stake,” he said. “For example, it is nearly impossible to estimate the true cost of a purchase of new equipment when income tax rates are uncertain. Although income taxes are not the only factor in making business decisions, prudent business owners want to understand the tax consequences of a transaction.”
“I also strongly urge you to not underestimate the effect that the ‘Tax Cliff’ has on tax administration itself,” Porter said. “If Congress waits until late in the year or even into next year to enact tax law changes, the IRS and commercial software vendors must scramble to revise or issue new tax forms and update software. As we experienced just a couple of years ago, this process would likely delay the initial date of when many taxpayers, including small business owners, can file their income tax returns. As a result, affected taxpayers would receive their refund checks days or perhaps weeks later than usual, which is particularly concerning for businesses operating under a tight cash flow.”
For CPAs themselves, a majority of whom are small business owners, tax uncertainty causes an increasingly compressed busy season in order to educate small business clients on the changes in the rules, advise owners on the after-tax consequences of business transactions, assist small businesses and individuals with tax and cash-flow planning and prepare income tax returns, Porter added.
Rep. Joe Walsh, R-Ill., who chairs the subcommittee, acknowledged that the vast majority of small businesses are organized as pass-through entities, where taxes are paid by their owners at individual rates.
“While there is broad agreement that allowing all of the tax relief enacted in 2001 and 2003 to expire is inappropriate and should be avoided, there is wide disagreement on the composition of an extension and what it means for small businesses,” he added. “The Obama administration and some of my colleagues on the other side propose that taxes should revert to higher rates for taxpayers earning more than $200,000. They claim that this proposal would only raises taxes on 3 percent of small businesses; but that 3 percent figure accounts for more than 900,000 small businesses. Most of my Republican colleagues and I support an across-the-board extension of current lower tax rates. We believe that imposing the higher marginal rates on earners making more than $200,000 a year would most directly affect those small firms responsible for generating the majority of small business income and new jobs.”
Entrepreneur Tax Jitters
Scott Hodge, president of the Tax Foundation, a think tank and advocacy group, pointed to the uncertainty among small business owners about future tax policy.
“America’s entrepreneurs are facing tremendous uncertainty, thanks to the stalled economy and the impending expiration of the Bush-era tax rates at the end of this year,” said Hodge. “While there are many in Washington who believe that allowing top marginal tax rates to jump from 35 percent to 39.6 percent will have a minimal impact on pass-through businesses and the economy, this view is badly mistaken. The issue is not how few businesses will be impacted. The relevant economic question is how much business income will be hit with higher tax rates. No matter how you parse the data, the evidence is clear that the vast majority of pass-through business income is earned by high-income taxpayers and they would be disproportionately impacted by such a tax increase.
"Indeed, past Tax Foundation research determined that nearly 40 percent of any new tax revenue raised by boosting the top two tax rates would come from the top 2 percent of private businesses," Hodge added. "These are the most successful, growing, and profitable firms that are key to America’s economic recovery. In every sense of the word, this would amount to a ‘Success Tax’ on our best and brightest entrepreneurs.”
Theresa Kern, president of the Chicago-based small construction business MA Steel Erectors Inc., testified on behalf of Women Construction Owners & Executives USA. “The future tax policy of the United States will have a profound effect on our members’ ability to stabilize and then grow their businesses,” she said. “MA Steel is a labor-intensive business as are most construction companies, and business growth has a direct correlation to creating badly needed jobs to help the American economy grow and prosper. While media headlines blare, ‘Corporations don’t pay their fair share,’ let me assure you that small business corporations not only pay their fair share, but are a major contributor to the economy as well as the tax base of this country and have often been referred to as the ‘life blood of U.S. economic growth engine.’”
A small business owner, Doug Harmon, CEO of Twin City Die Castings Co., a Minneapolis-based second-generation family-owned business with 250 employees, told the subcommittee about his experiences. The recession hit the manufacturing industry hard, he noted, and he needed to downsize his workforce from 250 to 155 workers. But as the economy has slowly recovered, he has been able to rehire most of the laid-off workers. Now he is facing the prospect of the so-called “fiscal cliff” or “Taxmageddon” when steep tax hikes and spending cuts are slated to take place unless Congress takes action before the end of the year.
“For manufacturers like me, this tax cliff or Taxmageddon is a serious threat,” said Harmon. “Come Jan. 1, 2013, some $500 billion in tax increases will hit the U.S. economy, which already suffers from a weak economy and an uncompetitive tax code. In fact, trillions of dollars in tax provisions will expire, from the Bush-era cuts on income to a wide range of tax breaks for business. As you well know, many tax provisions are enacted on a temporary basis —in large part due to budgetary and political constraints—requiring repeated extensions (occasionally even retroactively). The uncertainty resulting from such temporary tax policy makes it difficult for die casters, which rely on three- and five-year business strategies, to plan effectively for the future and remain competitive in an increasingly global economy.
“Not knowing whether or not Congress will renew the Bush-era tax cuts and the pro-business tax extenders which expired at the end of 2011 is keeping many die casters and for that matter most manufacturers from investing as much as they could to grow their business, purchase new equipment and hire more employees," he added. “In order for die casters to prosper in this country we need two things— stability with a pro-growth approach and transparency in our tax code.”
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