On May 11, Treasury released General Explanations of the Administration’s Fiscal Year 2010 Revenue Proposals. This is an important blueprint for how the president proposes to shift the burden of taxes in order to keep from raising taxes on most Americans while paying for important election-year promises. President Obama has said that he will not raise taxes on individuals and businesses earning less than $250,000, excluding approximately 98% of potential taxpayers. On the spending side, the president has acknowledged that the economic slowdown may also slow the timetable for accomplishing election-year promises, but the administration is still committed to funding the economic recovery and to some expensive initiatives such as health care and education. Also, hoped-for cuts in military spending in Iraq are being offset by increases in the Afghanistan-Pakistan area.
The administration’s proposals will be discussed throughout this year in Washington and will change before enactment. However, with a Democratic Congress and president, the proposals cannot be ignored, even at this early stage, and some proposals may come quickly to pay for an anticipated $700 billion health care bill this summer. (President Obama has stated that he is committed to a “pay as you go” approach to spending legislation.)
Here is a quick summary of some of the president’s tax proposals.
Tax Provisions Generally
The Obama proposals increase taxes on many higher-income individuals, reversing some of the Bush-era tax cuts that were included in the Economic Growth and Tax Relief Reconciliation Act of 2001, P.L. 107-16, including reinstatement of the 39.6% rate. For joint filers with income over $250,000 and singles with income over $200,000, the 36% rate is reinstated. For these taxpayers, the limits on itemized deductions and the personal exemption phaseout would be reinstated, and a 20% tax rate on dividends and capital gains would apply. In addition, the Obama proposals would limit the value of itemized deductions to 28% when they would otherwise reduce taxable income in the 36% and 39.6% brackets, with similar limits applying under the alternative minimum tax.
The proposals also include a number of tax decreases. For businesses, they would eliminate capital gains tax on small business stock, make the research and experimentation tax credit permanent, and expand the net operating loss (NOL) carryback. The American Recovery and Reinvestment Act, P.L. 111-5, provided a five-year NOL carryback for eligible small businesses that had average gross receipts of $15 million or less, and the president’s proposals would expand this availability but are not specific as to the threshold, saying that “the Administration looks forward to working with the Congress to make a lengthened NOL carryback period available to more taxpayers.” Most individual cuts are for lower-income taxpayers, including new or enhanced making work pay credit, earned income credit (although the advanced earned income credit would be eliminated), child tax credit, saver’s credit, and American opportunity tax credit. Treasury would also extend through 2010 the expiring alternative deduction for state and local sales taxes for individuals.
Revenue Raisers and “Loophole Closers”
Multinational, Energy Company, and Offshore Haven Provisions
The proposals would “reform” the U.S. international tax system and eliminate oil and gas company preferences. In addition, they seek to address the problem of underreporting of income through the use of offshore accounts and entities. These have been widely covered in the press and will not be detailed here.
The administration would codify the economic substance doctrine, something that the AICPA has opposed because it would reduce flexibility in dealing with specific tax situations and could deter legitimately aggressive tax planning.
The proposals would repeal LIFO, effective for tax years beginning after 2011. If this inventory accounting method is eliminated with GAAP’s convergence on international financial reporting standards, Congress and the administration will not get budgetary credit for the revenue it would bring, so this may be a preemptive strike. The revenue estimate has decreased from when it was proposed a year ago, with businesses cutting back inventory and problems in some affected businesses, such as auto dealerships. However, some businesses, such as oil and gas companies, are fighting to retain this inventory method, which matches current expenses with current revenue.
Lower of Cost or Market
The proposals would prohibit the use of lower of cost or market and subnormal goods methods of accounting for inventories. The retail method would be allowed only if it were in conformity with the taxpayer’s book method of accounting.
Estate and Gift Tax Valuation Discounts
The proposals would require consistency in valuations for transfer and income taxes. Valuation discounts would also be curtailed in certain direct or indirect transfers to family members by substituting certain assumptions for restrictions that reduce the value of the transferred interest. Grantor retained annuity trusts would have a minimum 10-year term, increasing the downside risk of this technique of minimizing transfer taxes. These proposals would curtail many popular techniques used for business continuity and estate planning.
No deduction would be allowed for punitive damages whether adjudicated or settled, and insurance reimbursements would be required to be included in the income of the insured.
The proposals place new administrative requirements on businesses and tax return preparers in an effort to improve compliance.
Mandatory e-Filing for More Tax Return Preparers
Practitioners who prepare more than 100 tax returns in a calendar year would be required to e-file tax returns for individuals, estates, and trusts. This is a decrease from the current 250-return threshold.
Mandatory e-Filing for Corporations and Partnerships
All corporations and partnerships required to file a Schedule M-3 would be required to file electronically. In addition, some other large corporations, such as tax-exempt organizations, would generally be required to e-file. Penalties for failing to e-file would be increased.
Information Reporting for Payments to Businesses
Businesses would be required to report information on aggregate payments of $600 or more to corporations for services or gains. Currently, payments to corporations are excepted from the reporting requirement.
TINs or Withholding for Independent Contractors
Contractors receiving payments of $600 or more would be required to provide a taxpayer identification number, and if this is not provided the business employing the contractor would be required to withhold tax at a flat rate selected by the contractor.
Information Returns Penalties
Various penalties for information reporting would be increased.
OIC Rules Changed
Taxpayers would no longer be required to include a nonrefundable payment in order to apply for an offer in compromise.
For fiscal 2011, President Obama has asked the newly appointed Economic Recovery Advisory Board for a plan to “rebalance the federal tax code” so that it works better for America (Runningen and Donmoyer, “Obama Plans to Name Task Force to Overhaul Tax Code” (Bloomberg 3/25/09)). The objectives are to simplify the Code, protect progressivity, close loopholes, reduce tax evasion, and reduce corporate welfare. The only restrictions on the board are that it cannot propose an increase in taxes on families earning less than $250,000 per year, and any tax increases will have to wait until 2011.
Fiscal 2011 may see more dramatic tax reform proposals than fiscal 2010, depending on how the economy recovers and on the potential budget consequences of some of President Obama’s plans for change.
William Stromsem is communications director in the AICPA’s Tax Division, an associate professor of accountancy at George Washington University, and a member of the board of DC Community Tax Aid. For more information about this column, contact Mr. Stromsem at wstromsem@ aicpa.org.