Intro: This is DC Dynamics, a podcast about what’s coming up in US tax policy, with a look to the past as our guide; or, in this episode, a look at the pending tax bill in Congress as a guide to the future, when a big portion of the 2017 Tax Cuts and Jobs Act is slated to expire at the end of 2025. I’m Ray Beeman and I lead our terrific Washington Council EY practice here in Washington DC.
After more than a year of on-and-off negotiations, there is finally a tax package to talk about, combining the so-called TCJA pre-cliffs – on R&D, interest deductibility, and 100% bonus depreciation – with an expansion of the Child Tax Credit, and adding in bipartisan priorities like US-Taiwan double-tax relief and affordable housing provisions. The $78 billion cost of the bill is mostly paid for with a crackdown on the Employee Retention Tax Credit, that is a pandemic-era program that was probably low-hanging fruit after receiving a lot of bad press for aggressive marketing and abuse of the program that went beyond the original congressional intent.
Now under the bill, known as the Tax Relief for American Families and Workers Act, restoring Section 174 expensing for domestic R&D – as opposed to the five-year amortization requirement – and the prior Section 163(j) interest deductibility parameters that base the calculation on EBITDA –that is, “saving the -DA” – are proposed to be retroactive to 2022 and extended through 2025. As a cost-saving measure, foreign R&D is not addressed, and would remain subject to 15-year amortization.
Addressing these TCJA pre-cliffs is considered long overdue. The changes on R&D and interest took effect after 2021 and were originally scheduled under the TCJA to cut costs – with the expectation, correctly, that there would be a push by the business community to undo the policies. There was significant disappointment and expense among businesses because a deal did not come together at the end of 2022, probably because the two parties couldn’t agree on the terms of a Child Tax Credit expansion. Another change that this bill would roll back is the phasedown of 100% bonus depreciation, which was built into the TCJA originally.
The bill also includes some bipartisan provisions including the US-Taiwan Double-Tax Relief Act that had passed both Ways & Means and Senate Finance; disaster tax relief act to provide personal casualty loss relief for any disaster area declared since 2020; and housing provisions to restore the 12.5% Low-Income Housing Tax Credit ceiling increase and provide a transition rule regarding the tax-exempt bond financing requirement.
The changes to the Employee Retention Tax Credit that serve as the revenue offset include increased penalties, enhanced disclosure requirements, and barring additional claims after January 31, 2024, which at $77 billion comes close to completely paying for the bill.
Even bipartisan tax bills take a little time to cross the finish line and, indeed, the process is taking a while in the Senate, where Republicans are insisting on a Finance Committee markup. The bill has drawn several concerns that include:
- Establishing a “legislative groundwork for expansionary entitlements,” according to Finance Committee member Ron Johnson, presumably through Child Tax Credit provisions that would gradually increase the refundable amount per child to $2,000 per year and allow the use of earned income from the prior taxable year to calculate the maximum credit.
- Senator Marco Rubio (R-FL) has his own CTC expansion proposal and several concerns, including the prior year calculation lookback I just mentioned and questioning whether it retains a sufficient “connection to work.”
- Finance Committee member Marsha Blackburn (R-TN) has similarly argued that “allowing taxpayers to use their prior-year earnings to qualify for the [CTC] will disincentivize them from working.”
- Another Finance Committee Republican Thom Tillis (R-NC) has questioned the integrity of the Employee Retention Tax Credit offset, suggesting it is a “phony” pay-for for counting money unspent by the government.
- Finally, there is an undercurrent of concern among Republicans about approving the bill in an election year, given that Democrats have prioritized expanding the Child Tax Credit.
- Senator Chuck Grassley (R-IA), the former Finance Committee chairman, has said that there are concerns over making the President “look good” and increasing his re-election chances ahead of the 2025 cliff. He suggested this would especially be concerning if the bill resulted in the government mailing out checks before the election, which is actually how IRS would implement the provision for those taxpayers who file early, before an expansion may be enacted.
This bill looks about like what we would have expected a compromise tax bill to look like: split about equally at around $33 billion each for Child Tax Credit expansion and the same amount for business provisions – everything exists together in a delicate balance – with a revenue offset that has garnered some enmity from both sides of the aisle.
The bill also provides a template for how Congress could approach a tax bill addressing the 2025 TCJA expiring provisions for individuals and pass-throughs, as well as international provisions that change unfavorably for taxpayers after 2025. This looming fiscal cliff – or Taxmageddon – almost certainly will pull in a number of other tax issues and amount to basically a reconfiguring of much of the tax system.
Now who is in charge of the House and Senate after the November elections will of course play a major role in how any bill comes together next year. It’s likely that the architects of the current tax bill – House Ways & Means Committee Chairman Jason Smith (R-MO) and Senate Finance Committee Chairman Ron Wyden (D-OR) – will continue to be tax committee leaders in the next Congress, either in the majority or the minority. The Chairmen are rather far apart on the ideological spectrum and didn’t appear to have much of a public working relationship but came together on this package, and both resisted efforts from members of their respective parties to change the bill beyond what they agreed to, showing how effective faith and trust can be even in an intensely partisan environment.
Meanwhile, the November elections could flip both the House (to Democrats) and the Senate (to Republicans) – an historical first, by the way – which could put into the chairmanship Ways & Means Ranking Democrat Richard Neal (D-MA) and Finance Ranking Republican Mike Crapo (R-ID), both of whom declined to join Smith and Wyden in unveiling this bill and precluding any “four corners” support that we have seen for past proposals. Nevertheless, most Ways & Means Democrats pretty quickly fell in line behind the bill, with some saying while it is not perfect, they wouldn’t let the perfect be the enemy of the good. Put another way, House Democrats in this case perhaps decided that their natural propensity to oppose the path the other party has cleared should be set aside in favor of the good that could be accomplished in this bill.
Much of the commentary about this bill has been through the lens of 2025, when TCJA provisions for individuals and pass-through businesses expire, particularly since it would add the Child Tax Credit expansion and TCJA pre-cliffs to an already massive slate of 2025 expirations that would cost upwards of $3.5 trillion to extend. Some have argued that making the cliff even bigger is a good thing, while others say that is a bad thing. Finance Committee Chairman Wyden has said a more generous child tax credit now strengthens Democrats’ hand for the big 2025 tax bill because negotiations will begin from a better starting point. And some conservative groups have argued that the larger child tax credit ensures that Democrats are brought to the negotiating table in the first place. However, others see the expanded credit as just adding to the already high 2025 price tag and argue that giving Democrats their top priority now means Republicans will have to agree to an even bigger child credit expansion later.
Perhaps given revenue constraints and other factors, the current bill doesn’t address any of these tax extenders. While extenders packages used to be regular features of Congress every year or every other year, some have been made permanent and others given multiyear extensions. There are a few old-time traditional extenders that expired after 2021 like the Mine Rescue Team Credit and three-year recovery period for racehorses, but they may have to wait until the 2025 cliff, when some higher-profile provisions like Work Opportunity Tax Credit and the CFC look-through provision expire. And in addition to TCJA expirations, there are other provisions of the law that change in 2025, notably on international tax, when the deductions for GILTI and FDII are scheduled to get smaller, and the BEAT rate is scheduled to increase and become more onerous. More on that in a future episode.
Now, a major question mark heading into 2025 is the extent to which revenue offsets will be required, politically, for TCJA extensions, and what they could look like. Don’t forget, Republicans in 2017 generally relied on the economic growth potential of the TCJA to justify it being a net revenue loss of about $1.5 trillion, while Democrats have consistently poked holes in that argument in the years since, arguing that it underperformed in terms of growth effects and resulted in a greater number of stock buybacks.
The Employee Retention Tax Credit provision that is in this bill could be a template for revenue provisions that Republicans can support after they successfully dialed back some of the Inflation Reduction Act’s IRS funding boost, which Democrats were willing to agree to. Other rollbacks have not been as well-received, including Republican proposals in multiple other bills to repeal or scale back the clean energy provisions enacted in the IRA. Defunding the IRS has become something of a rallying cry for some Republicans, who have portrayed strong enforcement funding for the IRS as an infringement and cited the funding boost to suggest that Democrats want revenue agents knocking at the doors of average Americans. Tax collection has always been a controversial topic, going back decades and even centuries all the way back to Saint Matthew the tax collector. After the Revenue Act of 1942 added 15 million more taxpayers to the system and transformed our income tax system from a class-tax to a mass-tax, Walt Disney was actually recruited by then-Treasury Secretary Henry Morgenthau to produce a cartoon that, among other things, showed Donald Duck being told that paying taxes is actually a privilege. And that was decades before the proverbial Taxman told the Beatles to “Be thankful I don’t take it all.”
And that is a debate we will continue to see for years to come.
Anyway, the current bill we are looking at now definitely has some elements that will inform the 2025 debate in many ways, across the four Ps of people, process, politics and policy, as we like to say here at Washington Council – bipartisan cooperation among unlikely allies; a strong backbone by committee chairmen and congressional leaders to hold a deal together; and the right blend of provisions to make it appeal to a majority. Whether this will be the recipe for 2025 remains to be seen, but it gives us an idea of what to watch for. As they say, if you open different doors, you may find something you never knew was yours. Anything can happen, and it almost certainly will in 2025. That’s all for now. For Washington Council EY and all of my great colleagues who work there with me, I’m Ray Beeman and this has been DC Dynamics.
