Having recently passed a budget as a result of communal efforts between the House and Senate which were notably absent during healthcare reform efforts earlier this year, the stage is set for Congress to enter a very intense multi-week period leading up to Thanksgiving, filled with headlines on tax reform. From a market standpoint, the outcome of this process will determine whether US interest rates continue to go up or retrace the recent increase. Meanwhile, from a purely political perspective, from here the two main questions surrounding tax reform are: what is the process to get from these budget resolutions to actual tax reform and what are the potential pitfalls that Congress needs to avoid in order to successfully pass the bill.
In terms of next steps, the progression from budget resolutions to tax reform is as follows:
- Having recently passed a 2018 budget, an important step which unlocks "budget reconciliation", or the process by which tax reform can be passed with a simple majority vote, the next step is to write the actual bill; this will be done by the Ways and Means Committee in the House and the Senate Finance Committee in the Senate, likely in unison (much like with the budget resolutions) in an effort to speed up the process.
- After it passes the committee vote, it will be brought to the floor for a full vote in the House, which will then be sent to the Senate upon approval. At this point, the Senate can vote for the bill as is and send to the president’s desk, vote to kill the bill, or they can add amendments to the bill and vote on their new version. In the latter case where the Senate adds amendments, the new bill will be sent to a “conference committee” of both Senators and House Representatives, in which they would reconcile the bill and send it back to House/Senate for passage and then sent to the President’s desk.
As noted earlier, the House is now expected to release a draft tax reform bill this Wednesday, November 1. The content and structure of the bill are of supreme importance and there will be negotiations and amendments following the release of the initial draft. That said, the initial draft should be very telling, giving insight into the aggressiveness of the cuts, funding measures and where the GOP sees room to compromise. With a variety of ideas suggested throughout this process, understanding which make it into the actual bill is important; according to Citi, key things to look for include:
- Are middle-class cuts from the budget framework (like doubling the standard deduction and expanded child tax credits) included?
- Is the SALT deduction included (or capped in some way)?
- What level is the corporate tax rate (over/under Trump’s 20% target)
- Is there a fourth tax bracket (rumblings suggest incomes above 1mm USD would be affected)
- Is the tax cut retroactive to Jan. 1, 2017?
- Is there a repatriation deal for money kept overseas?
- Does it add to the deficit? If so, how much?
- Will extraneous issues be slipped into the draft to entice specific voters?
- Minimum wage hike
- Border wall funding
- Debt ceiling compromise
- Planned parenthood funding
There are a lot of unknowns in this process, the biggest of which - of course - is whether the bill will be delayed from its scheduled Wednesday appearance, and any number of discussed (or new) provisions may be added; over the weekend Bloomberg reported that bowing to concerns from Republican House members in high-tax states, the chamber’s chief tax writer said he’ll preserve a federal income-tax break for property taxes.
“At the urging of lawmakers, we are restoring an itemized property tax deduction to help taxpayers with local tax burdens,” House Ways and Means Chairman Kevin Brady said in a statement Saturday afternoon.
In a sign of the complex balancing act that Brady must perform to produce a tax-overhaul bill this week, the property-tax announcement came on the same day that the National Association of Home Builders pulled its support for the legislation. The group’s chief cited concerns that the bill might undermine existing tax breaks that support the housing market. Likewise, a coalition that includes the National Association of Realtors said in an emailed statement that it “will vigorously oppose this plan.”
The removal of the so-called SALT provision means that Congressional leaders will need to find an alternative way of finding as much as $1.3 trillion over 10 years - revenue that would help offset the deep tax-rate cuts they want for businesses and individuals. Restoring the property-tax deduction would trim that revenue projection by about a third - or $430 billion - said a conservative tax lobbyist who asked not to be named because discussions about the bill were private.
And yet, adding to the confusion, it would appear that deductions for state and local income taxes and sales taxes would still be repealed under the planned House bill.
As Bloomberg reported moments ago, the confusion is so great that corporate tax cuts may have to be staggered reaching the 20% threshold over a matter of years:
- PLAN WOULD CUT CORPORATE RATE GRADUALLY, REACHING 20% IN 2022
Regardless of the details of the final bill, the important question for the market is whether or not meaningful corporate and individual tax cuts will be enacted; Citi believes that the answer "is a resounding yes – and it will happen sooner rather than later."
Given the speed and determination with which the GOP passed the budget resolutions and the general agreement regarding the details and necessity of passing tax reform (both economically and politically), I have little doubt that Republicans will find a way to compromise. I can comfortably predict tax reform becomes law before the end of 2017, with an eye towards the first week in December.
Finally, there is the question whether today's Manafort charges could derail tax reform. Addressing that issue, Paul Ryan said in a radio interview that “nothing’s going to derail what we’re working on in Congress" adding that he feels good about Senate votes for tax bill as the outline of the plan has already been discussed with senators.