Julia Lawless, Antonia Ferrier, 202.224.4515
Facts Are Stubborn Things: The Impact of the President’s Small Business Tax Hikes
American small businesses are the engines of economic growth, responsible for creating about two-thirds of new jobs. But instead of making it easier for them to invest, grow, and hire, the President’s Fiscal Year (FY) 2013 Budget hits hundreds of thousands of small businesses with massive job-killing tax hikes and new layers of costly and burdensome complexity. Even more, the Administration’s corporate tax reform framework leaves these vital job creators out in the cold, failing to deliver real small business tax reform. Take a look at the impact of the President’s proposed tax increases:
Massive Tax Hikes: By raising the top two marginal income tax brackets for individuals, many small businesses owners, who file their tax returns on the individual side, will see their federal income tax rates jump to as high as 39.6 percent. This 39.6 percent doesn’t even include payroll or state and local taxes. And, let’s not forget about the new 3.8 percent Medicare Hospital Insurance Tax (HIT) on passive income that was included in the partisan $2.6 trillion health law.
According to the Joint Committee on Taxation, 50 percent of all flow-through business income will be subject to this tax hike. This is especially harmful to small business, because virtually all small businesses are organized as flow-through entities such as S corporations, partnerships, and LLCs. (See at IRS Statistics of Income Integrated Business Data)
According to a Joint Committee on Taxation, nearly 750,000 flow-through businesses would be hit immediately with these tax rate hikes on January 1, 2013.
Increases on Investment Taxes: Millions of Americans, including small businesses owners and retirees, rely on investment income. The President’s budget nearly triples the top tax rate on dividends from 15 percent to 43.4 percent and raises the top capital gains rate from 15 percent to 23.8 percent – a massive 59 percent increase.
According to a February 2012 Ernst & Young Study, after taking into account corporate, investor (with the President’s proposed increase), and state taxes, the top rate on dividends will rise to 68.6 percent on January 1, 2013, which is the highest in the world among the Organization for Economic Co-operation and Development (OECD) and BRIC (Brazil, Russia, India, and China) countries.
Similarly, that same study shows taking these same taxes into account, the top rate on capital gains will rise to 56.7 percent on January 1, 2013, making it the second highest in the world among OECD and BRIC countries.
Section 68 Pease Limitation: Bringing back the limitation on itemized deductions, known as Pease, in 2013 will add in an extra layer of complexity and put a dent in the amount of itemized deductions small business owners, as well as others, can claim.
Reinstates PEP: Often times, small business owners are pushed into a higher income bracket because their income flows through and is reported on their individual tax return. By reinstating the personal exemption phaseout (PEP) in 2013, these entrepreneurs will see a jump in their marginal tax rates.
Limitation on Itemized Deductions: Limiting the value of itemized deductions at 28 percent will reduce the value of itemized deductions such as the charitable deduction and home mortgage interest deduction for small business owners and other individual Americans. Even more, this provision discourages saving for retirement.
Many small business owners will be pushed into one of the top two brackets as a result of their small business income, even if they don’t take a penny out of the business for themselves. Ultimately, these entrepreneurs will lose a large portion of their itemized deductions, simply because they operate a small business.
This provision will also discourage small business owners from keeping or setting up retirement plans which, in turn, will reduce the number of workers with access to a retirement plan at work. According to American Society of Pensions Professionals and Actuaries, access to a retirement plan at work is the single most important factor in promoting adequate retirement savings.
Data from the Employee Benefit Research Institute (EBRI) shows more than 70 percent of workers making $30,000 to $50,000 contribute when covered by a plan at work compared to less than 5 percent of workers at the same income levels save on their own in an IRA when there is no employer plan.
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