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Devil In The Detail Of Obama's Tax Plans

by Mike Godfrey, Tax-News.com, Washington

17 July 2012


With Republican and Democrat politicians batting small business tax cut proposals back and forth unsuccessfully in the United States Congress recently, President Barack Obama has continued to plug his call for the Bush tax cuts to be renewed only for ‘middle class’ Americans.

Against a backdrop of protests from his Republican opponents, who call it a “small business tax hike” and a “tax on small business job creators”, the President has continued his demand that the Bush tax cuts should expire for married taxpayers making more than USD250,000 in income per year, and USD200,000 for single taxpayers.

He has repeated his call on Congress "to act now to extend tax cuts for the 98% of Americans making less than USD250,000 for another year. Under my plan, 98% of American families won’t see their income taxes go up at all. But the other 2% of Americans will have to pay a little more in taxes on anything they make over USD250,000.”

However, the Tax Foundation, in a new study, has pointed out the complications that would be caused by the President’s proposal. For example, it said, “the Bush tax cuts included much more than just marginal rate reductions - they also changed the way dividend income is taxed, reduced capital gains tax rates, and phased out various limitations on exemptions and deductions for upper income taxpayers.”

“Additionally,” it adds, “marginal tax rates apply to taxable income, while President Obama’s thresholds apply to adjusted gross income (AGI). Finally, the President first proposed those USD200,000/USD250,000 thresholds back in 2009; using the same numbers four years later in 2013 would cause this tax increase to affect significantly more taxpayers than initially intended because of inflation.”

The official proposal in his 2013 budget therefore indexes those thresholds using a 2009 base year, making the actual thresholds USD213,600 and USD267,000, based on the Tax Foundation's projections, while, using the difference between taxable income and AGI (largely personal exemptions and deductions), the study calculates that the applicable income tax threshold would actually be USD247,000 for a married couple. The same calculation for single filers comes out to USD203,600.

In essence, the Foundation’s workings show that while, under current policy, there are six taxable income brackets - 10%, 15%, 25%, 28%, 33% and 35% - the President’s proposal would let part of the 33% tax bracket and the entire 35% tax bracket rise to Clinton-era tax rates: 36% and 39.6%. The split in the 33% tax bracket (where the upper part goes up to 36%) would then be the USD247,000 threshold.

However, it points out that “things get more complicated when you look at other aspects of the Bush tax cuts - capital gains and dividends, for example”.

Capital gains are taxed at a top rate of 15%, whereas under President Clinton they had been taxed at 20%. President Obama now proposes to tax capital gains at 20%, but only for taxpayers whose income is above his threshold. Similarly, whereas, under the Bush tax cuts, “qualified” dividends (those paid by US corporations where the shares have been held for at least 60 days) are taxed at 15%, they would revert to being taxed at the ordinary income tax rates but only for taxpayers earning over the President’s threshold.

“Thus,” the Foundation concludes, “qualified dividends would be taxed at capital gains rates until the taxpayer’s taxable income exceeds the threshold, at which time they are taxed at ordinary rates. The exact amount that is taxed at the higher rate is, as with capital gains, the lesser of the taxpayer’s taxable income over the threshold and his or her qualified dividend income.”

TAGS: capital gains tax (CGT) | tax | small business | economics | business | fiscal policy | budget | tax rates | United States | dividends | individual income tax

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