In US tax reform talks, small firms fear missing out on relief

Checkpoint Newsstand January 22, 2015

WASHINGTON (Reuters) - President Barack Obama's administration recently sent a blunt message to small business owners who worry tax reform could leave them paying higher income tax rates than corporations: Consider going corporate yourselves.
In a closed-door meeting with lobbyists on Jan. 13, Treasury Secretary Jack Lew fielded questions on whether it would be fair to cut the corporate rate without lowering rates for businesses that pay tax through their owners' individual filings. Lew's answer was that some such firms, which are known as "pass throughs," would probably be better off becoming corporations, according to three people who were in the room and asked not to be named.

"There was no interest in talking about rates for pass throughs," said Dan Danner, the head of the National Federation of Independent Business, who was also at the table with Lew.

Danner said the Federation, which lobbies for 350,000 small and independent businesses, plans a noisy fight to win lower rates for firms that do not register as corporations. Many small business owners choose to pay taxes through individual filings to take advantage of lower tax rates or to avoid the added regulatory scrutiny that corporations face. The administration wants to keep the individual tax code out of reform talks because it sees little room for compromise with Republicans, who reject Obama's calls for higher taxes for the rich. Lew was on the stump again on Wednesday, the day after Obama's State of the Union speech, pushing tax reform to boost investment. The battle over individual rates for businesses is an initial step in broader tax reform talks.

Both the White House and many Republicans want to lower corporate tax rates, but they also want to eliminate enough tax breaks to keep the overhaul from increasing the budget deficit. Obama said on Tuesday the tax code was "rigged" to let some corporations pay nothing. He also urged lawmakers to make filing tax returns easier for small businesses. He did not, however, bring up his proposals to lower corporate tax rates to 28 percent from its current level of 35 percent, outlined in budget proposals since 2012, which share elements of a 2014 Republican bill that called for a 25 percent corporate rate. Many small businesses say cuts would be unfair to millions of small firms that pay income tax rates as high as 39.6 percent when filing via their owners' individual returns.

Comparing corporate and pass-through tax rates is not straightforward, though, as some corporate income is also taxed when shareholders pay taxes on dividends or profits from stock sales. Also clouding the argument, just 3 percent of individuals with business income paid rates above 28 percent in 2007, according to a 2011 study by the Treasury. While senior Republicans, such as Representative Paul Ryan say rates are too high for pass-through businesses, many lobbyists see this as a battle for another day and are focused on ensuring any legislation simplifies filing and makes permanent a tax break on capital investments.

"My members will say this is one bite out of the apple and then we can move on to the next one, which is lowering the individual rate," said Karen Kerrigan, who heads the Small Business & Entrepreneurship Council and was also at the table with Lew.

The Treasury had no comment on Lew's message over individual rates, but its spokeswoman said that Lew made clear in the meeting that the administration was not asking small businesses to pay for tax reform. Kurt Summers, who runs a business selling, renting and servicing generators in Austin, Texas, worries tax reform will make it harder to compete with the distribution arms of corporations like Caterpillar Inc. and Cummins Inc.. Summers files his business taxes using an individual return and usually pays rates above 28 percent. "That's fewer dollars I have in the coffers to invest and grow my businesses," he said.

Questions

1. If the Corporate tax rates and available deductions are so much are lower and better than the Individual tax rates, doesn't it make sense to create a corporation, and file your taxes as a corporation instead of as an individual (as a Form 1040 Sch. C)? What are some of the issues of filing as a Corporation instead of as an Individual (maybe there are none)? Perform tax research to back your position.

2. What would you see as a compromise solution for the small and medium sized business owner? Is the solution merely to create another tax rate or system for individuals who file their business taxes as a pass through on their individual income tax return?

3. Doesn't lowering the corporate tax rates merely reduce the governments revenue without any real benefit to anyone but the corporations?