The Tax Reform America’s Small Businesses Really Need (25 Oct 10)
THE TAX REFORM
[Part 1 of 2]
By the time you read this, the Election of 2010 will be over, and we will have some idea of what Congress will look like for the next two years.
Regardless of how the election turns out, however, two things are clear:
· Congress will have to pass a tax bill before year-end to avoid a huge across-the-board tax increase for all Americans when the Bush tax cuts expire on December 31; and
· It’s highly unlikely the new Congress will have any better grasp than the old Congress of the tax breaks
Let’s face it – most people who run for public office (at least at the national level) have little grasp of how business works. But they REALLY don’t get how small businesses work.
Earlier this year Congress passed the Small Business Jobs Act of 2010. I don’t know about you, but I don’t think this law will create a single small business job. Increasing the Section 179 expense deduction for business equipment from $250,000 to $500,000 isn’t going to give most small businesses an incentive to hire people – if anything it will give midsized businesses a greater incentive to replace human employees with machines, software and other technology solutions the way they have for the past 30 years.
To make matters worse, right after Congress passed this law they changed the requirements for filing Form 1099 – now you have to send these bloody forms to just about everyone you work with, adding to small business’ paperwork burden.
If Congress is serious about creating jobs from
The vast majority of small businesses in
Why is that important? Very simple: when a “pass through” entity makes money, it does not pay taxes on that income. Rather, everything “flows through” to the owners who report that income on their individual income tax returns.
That means that whenever a “pass through” small business spends money on something, even a tax-deductible something, that expense reduces, dollar for dollar, the amount the owners can take out of the business to support themselves and their families (what accountants call “owner’s discretionary income” or “ODI”). Hiring extra people may reduce the owners’ working hours, but the extra expense also means they may not be able to make their kids’ college tuition payment. Rational people will not do that just because the Government thinks they should.
Here are two news bulletins for members of Congress:
· small business owners will not go out and hire people if by doing so they have to reduce their take-home pay – they will continue to do most of the work themselves and pocket the profits;
· asking small business owners to increase their expenses today in return for a tax deduction or credit which they won’t see until next year is a “non-starter” – it’s like the Wimpy character in the old Popeye cartoons, who “will gladly pay you Tuesday for the price of a hamburger today.”
For small business tax breaks to be really effective, they will need to put more money in small business owners’ pockets (or at least not reduce their current ODI).
Here are the tax breaks
Eliminate Employment Taxes for Small Payrolls. Most employee salaries in the
· small businesses will actually go out and hire people, because they can now pay them lower wages that employees can live on without drastically reducing the owners’ own incomes;
· employees will end up with more after-tax money in their pockets (many existing employees will get a “de facto” wage increase), which will encourage them to spend more on stuff; and
· small business owners will no longer have to pay huge sums to bookkeepers, accountants and payroll services to help them keep track of the Byzantine employment tax rules.
I would also recommend that in adopting this law, Congress eliminate these taxes on the owners’ “self-employment income” as well. A “pre-emption” of state and local payroll taxes eliminating those as well on payrolls of less than $5 million would be nice, but I’m not holding my breath for that.
More next week . . .