The White House and top Republican lawmakers have sounded surprisingly positive notes about the prospects for business tax reform in the first weeks of the new Congress, even as the obstacles to a deal between President Obama and congressional Republicans remain enormous.
“I'm optimistic that we can reach an agreement here,” said Treasury Secretary Jack Lew Wednesday at a public appearance in Washington. “I really am. I think that there's goodwill on both sides to pursue the conversation,” he said.
“You know, it doesn't help to pretend that this is going to be easy,” Lew acknowledged. “It's always hard. But it's not worth being here, doing the jobs we do, if you don't try and succeed at doing some of the hard things."
There’s no possibility of a deal to overhaul the entire tax code because of disagreements between Obama and the GOP about how high the top individual rate should be. Obama further widened the gap in his State of the Union address, calling for large tax credits benefiting the middle class while Republicans hope to simplify the tax code and reduce rates.
But Obama’s advisers have suggested that there could be a compromise on business taxes. The U.S.’s outdated tax code includes the highest statutory rate for corporations among advanced economies, 35 percent.
Top Republican lawmakers have responded positively to begin the year.
Paul Ryan, the House Ways and Means Committee chairman, in December suggested that he was open to working just on the corporate side of reform.
He again appeared to put a positive spin on such an approach Wednesday, saying on MSNBC following Obama's speech that “we'll see if we can get a tax reform package done. I'm glad that he sort of held back on the partisanship and demagoguery.”
Nevertheless, finding compromise will not be easy, if at all.
Texas’ Kevin Brady, a senior Republican on the Ways and Means Committee, said Thursday that he was encouraged by Lew’s comments, but “I don’t think corporate-only is the way to go.”
The problem, Brady said, is that “so much of the business community and job creation occurs on the other side of the tax ledger,” referring to many businesses that are taxed through the individual side of the code. “You want to make sure you don’t leave them behind."
The profits of so-called “pass-through businesses,” such as sole proprietorships, partnerships and S corporations, are taxed on their owners' individual tax returns, facing the higher individual tax rates.
Such businesses, some of which are big firms, employ more than 50 percent of the private sector, the Tax Foundation said in a report published Thursday.
“Since pass-through businesses now account for more than half of the business income and employment in the United States, any business tax reform needs to address the individual income tax code as well as the corporate income tax code,” wrote Tax Foundation economist Kyle Pomerleau.
Lew dismissed the possibility of lowering the individual tax rate on Wednesday.
“I don't think that there's any advantage in pretending that there aren't big disagreements on the individual tax side,” he said. He added, however, that the administration is working on “having it be clear how much we all care about having benefit that goes to small businesses” organized as pass-throughs without lowering the top individual rate.
In a recent meeting, Lew told executives of pass-through businesses that they may best be served by becoming corporations, Reuters reported Thursday.
"There was no interest in talking about rates for pass-throughs,” Reuters quoted National Federation of Independent Business head Dan Danner as saying.
The impasse could easily doom the prospects of business tax reform.
“We’re probably not as optimistic that that kind of a fundamental change can be achieved here in the short term,” Business Roundtable President John Engler said in Senate testimony Thursday, referring to a tax overhaul that addressed both corporations and pass-throughs.
An even bigger problem might be developing trust between the White House and congressional Republicans in the short window of opportunity before the politics of the 2016 presidential elections eliminate the possibility of cutting a deal.
Trust is necessary because lawmakers expose themselves to heavy criticism if they specify which industry’s tax breaks they would choose to remove to lower rates. Republicans have sought to lower the corporate tax rate to 25 percent, with the Obama administration aiming at 28 percent in its budget.
“It’s not like Lake Wobegon in Garrison Keillor stories, everyone can’t be above average. There are going to be winners and losers,” said Jon Traub, managing principal for tax policy at Deloitte Tax.
Former Ways and Means Committee Chairman Dave Camp, R-Mich., received little support last year when he announced a tax reform plan specifying just which industries and companies stood to lose.
His plan would have changed accounting rules favored by many corporations, eliminated a deduction used by manufacturers, and cut a number of smaller breaks, such as a deduction for entertainment expense.
Lawmakers are reluctant to risk threatening the pet breaks of entire industries unless they trust their negotiating counterparts to see legislation through to completion. “It’s probably a little bit of a chicken and an egg problem,” Traub said.
Just how hard of a push members of Congress will make, and how much trust can be built between them and the White House, will be determined in short order.
The Ways and Means Committee will go a retreat next weekend to discuss tax issues and could settle on a strategy then.
In the Senate, bipartisan working groups created by Senate Budget Committee Chairman Orrin Hatch of Utah and ranking member Ron Wyden of Oregon are working without a timeline.
But Hatch suggested this week that tax reform could be done to coincide with funding the highway trust fund, which is set to expire in May.