Candidates Stand Apart on Tax Policy Affecting Small Business

As the nation enters the 11th month of a slowdown that shows little sign of ending, it's becoming clear that the presidential election will focus increasingly on the economy. On that point, the presumptive candidates clearly stand apart on one issue -- tax policy.

Both Democrat Barack Obama and Republican John McCain have advanced a broad array of tax proposals that are complex, hard to understand, and on many points, difficult to compare. But the Tax Policy Center of the Urban Institute and the Brookings Institution, two nonpartisan research organizations, recently published a study that provides the best analysis yet of the candidates' respective positions.

As the study pointedly notes, tax and fiscal policy will loom large in the next president's domestic policy agenda. Nearly all of the tax cuts enacted during the Bush administration will expire at the end of 2010. Without changes, the individual alternative minimum tax (AMT) will engulf a growing number of middle-income households, and government must still address looming funding shortfalls in Social Security, Medicare, and Medicaid. In addition, both candidates have pledged to address the nation's health insurance crisis. All of these issues directly affect small businesses.

This election is unlike any other in recent memory, because both candidates seem to realize that the small business vote is up for grabs. Over the summer, both have made overtures to small business owners; McCain was a featured speaker at the National Federation of Independent Business's (NFIB) Small Business Summit in Washington. And just this week, Obama and House Small Business Committee Chairman Nydia Velazquez, D-N.Y., held a conference call with reporters to discuss small business issues.

But when all is said and done, tax policy should be the single biggest issue of concern to small business owners. The candidates' respective positions are too broad and too complex to address in one column. So over the coming weeks, as the campaign heats up, I will tackle various aspects of their proposals. In that sense, the Tax Center study provides a good basis to begin the comparison.

The analysis is based on the candidates' statements, Web site policy papers, and the Center's own assumptions about details that the campaigns have left unclear. Although neither campaign has discussed fundamental reform of the tax code, the study notes that both candidates have proposed major changes to the nation's tax laws.

A hallmark of the McCain policy is the permanent extension of all Bush administration 2001 and 2003 tax cuts. He would increase deductions for taxpayers supporting dependents, reduce the corporate income tax rate, and allow immediate deductions for the cost of certain short-lived capital equipment.

In contrast, Obama would only permanently extend certain provisions of the 2001 and 2003 tax cuts primarily affecting taxpayers with incomes under $250,000. He would increase the maximum rate on capital gains and qualified dividends while enacting new, expanded, targeted tax breaks for workers, retirees, homeowners, savers, students, and new farmers.

On the controversial issue of the Alternative Minimum Tax, both McCain and Obama are proposing to permanently extend and expand the "patch" that has prevented most individuals and families with incomes below $200,000 from being affected by the AMT. McCain, however, has been more definitive about the extension. Obama has only been vaguely supportive.

Each candidate would also, in 2011 and beyond, increase the estate tax exemption and reduce the estate tax rate, although McCain would cut the tax much more than Obama, according to the analysis. Finally, each candidate promises to broaden the tax base and reduce corporate loopholes.

McCain lists eight breaks for oil companies as targets but, other than that, is short on details for his pledge to eliminate "corporate welfare." Obama identifies a variety of steps he would take, including enacting basis reporting for capital gains, taxing carried interest as ordinary income (a major loophole for hedge funds), and enacting sanctions on international tax havens that don't cooperate with enforcement efforts.

From a broad fiscal perspective, however, the candidates' positions share a common flaw -- both are budget busting. Over the next 10 years, the McCain measures would reduce tax revenues by $3.6 trillion, while Obama's would cut revenues by $2.7 trillion. That equals a 10 percent and 7 percent reduction respectively in revenues at a time when the government faces record budget deficits.

But the McCain proposals might go even further than that. The study notes that they are shrouded in the same smoke-and-mirror phase-ins and phase-outs that are a hallmark of the Bush cuts. They tend to "mask" the true cost of his proposals, which are likely closer to $4 trillion in cuts, or 11 percent of revenues.

The candidates argue that their proposals should be scored against a "current policy" baseline instead of current law, which assumes that the 2001 and 2003 tax cuts would be extended and the AMT patch made permanent. If so, Obama's proposals would raise $300 billion, an increase of 2 percent, while McCain's proposals cut $1 trillion (if fully phased in and permanent), a decrease of roughly 2 percent in revenues.

Where the two candidates differ the most -- and radically according to the study -- is in who benefits. "McCain's tax cuts would primarily benefit those with very high incomes, almost all of whom would receive large tax cuts that would, on average, raise their after-tax incomes by more than twice the average for all households," the study notes.

In marked contrast, Obama offers much larger tax breaks to low- and middle-income households and would increase taxes on high-income taxpayers. The largest tax cuts, as a share of income, would go to those at the bottom of the income distribution, while taxpayers with the highest income would see their taxes rise.

You can see how this quickly gets complicated, and I've barely scratched the surface on the various proposals. Yet no other issue in the current campaign will have as much impact on small businesses, or the nation. That's why it's imperative to elect the candidate who puts forth a tax policy that lets small businesses do what they do best -- create jobs and spur growth -- so we can get out of this economic mess.