WASHINGTON -- Plans by Congress and the Bush administration to draft a major tax package next year have breathed new life into some old proposals feared by the municipal market.
On Friday, the second day of House Ways and Means Committee hearings on taxes, more than two dozen members of Congress offered an array of plans to stimulate savings and economic growth and promote tax fairness. Several of those also could have the unintnded side effect of driving investors away from tax-exempts.
Although tax lawmakers say it is still too early to tell what will be in next year's tax bill and whether the measure will even clear Congress, they also say that at this point anything is possible.
"It appears to me we'll be all over the board putting together a massive package with all sorts of provisions," Rep. Ed Jenkins, D-Ga., a member of the Ways and Means panel, said during Friday's hearing.
The idea of a major tax bill began several weeks ago when many members of Congress and President Bush called for measures to cut taxes to spur consumer spending and bring the country out of recession. This month, the Ways and Means panel and the Senate Finance Committee are holding a series of hearings to begin sifting through the various proposals, and Ways and Means Chairman Dan Rostenkowski, D-Ill., has said tax lawmakers will begin drafting a bill early next year.
But along with the proposals to improve the economy, many lawmakers have insisted that Congress approve tax incentives in two other areas, which contain some amount of danger for the municipal market:
* Savings. Several plans offer tax incentives for boosting the savings rate, the most recent being a proposal by House Republicans that was unveiled last month and presented again at Friday's Ways and Means hearing.
Under the plan, taxpayers with adjusted gross incomes of less than $50,000 annually will not be taxed on a portion of the interest income they receive from their savings accounts. That would presumably put tax-exempt bonds at a disadvantage, because it would allow taxpayers to earn tax-free interest on funds insured by the federal government.
Many members of Congress and the Bush administration are also offering a wide range of proposals to lure taxpayers back into individual retirement accounts. Both President Bush and Sen. Lloyd Bentsen, D-Tex., advocate a "backloaded" IRA, in which contributions are made to the account in after-tax dollars, unlike traditional IRAs, where contributions are tax-deferred up to a certain level of income.
In the backloaded IRA, interest becomes tax-exempt once it is left in the account for a certain period of time, making such accounts competitive with tax-exempt bonds.
* Fairness. Here, the main danger involves proposals to raise the alternative minimum tax. Under current law, interest on private-activity bonds is subject to a 24% minimum tax rate for individuals and 20% for corporations. The law also subjects interest earned from public-purpose and 501(c)(3) bonds to an additional special adjustment to a corporation's minimum tax base, at an effective rate of 15%.
Rep. Dan Rostenkowski's fairness proposal would cut taxes for the middle class and would make up the revenue loss from that proposal by raising the minimum tax rate on individuals to 25% from 24 .
Rep. Thomas Downey, D-N.Y., and Sen. Albert Gore Jr., D-Tenn., meanwhile have an even tougher minimum-tax proposal, which they unveiled in May and presented again to the Ways and Means panel on Friday. Their proposal would increase the minimum tax on individuals to 29%.
But promoting tax fiarness could cut both ways for municipal bond demand, because several members of Congress are also advocating raising the top marginal income tax rate, a move that would presumably make tax-exempt bonds more attractive to wealthy investors.
Rep. Rostenkowski, along with Rep. Downey and Sen. Gore, would add a fourth marginal rate of 35% to the current three-tiered income tax structure. Rep. Rostenkowski would also impose a 10% surtax on millionaires.