Budget & Finance

Budget Agreement Could Address Sequestration, Tax Reform

WASHINGTON — The recently formed congressional budget conference committee could include changes to sequestration and/or broad principles for tax reform in any agreement, if it is able to reach one, observers in the municipal bond market said.

The committee was formed as part of the deal to reopen the federal government through Jan. 15 and suspend the debt limit through Feb. 7. It is made up of both Republicans and Democrats and is responsible for producing a budget resolution by Dec. 13 that gives instructions about spending and revenue levels for fiscal 2014 so appropriations committees can pass spending bills.

“We intend to focus on what we can achieve. We hope we can reduce the deficit in a smarter way. We hope to restore stability to the budget process and end the lurching from crisis to crisis. And we look forward to the discussion,” Rep. Paul Ryan, R-Wis. and Sen. Patty Murray, D-Wash., the chairmen of the House and Senate budget committees, said in a joint statement Wednesday.

The committee may address the congressionally mandated, across-the-board spending cuts known as sequestration. These cuts include reductions in Treasury’s subsidy payments to issuers of direct-pay bonds.

Bill Daly, director of government affairs for the National Association of Bond Lawyers, said that both the House and the Senate budget proposals for fiscal 2014 assume changes to sequestration. The committee could make changes to the sequester for discretionary spending only, which would leave the current subsidy payment cut for direct-pay bonds in place. Alternatively, the committee could make changes to the sequester for mandatory spending, which could impact direct-pay bonds, he said, adding, “We’ll have to see what they come up with.”

Daly said any changes to sequestration would be contingent on what other cuts might be made for deficit-reduction purposes, and would likely only be for one or two years.

Susan Collet, senior vice president of government relations for Bond Dealers of America, said the committee will want to find away to have Congress return to making decisions about how to prioritize spending in a bipartisan manner and not live under the cuts imposed by sequestration.

Chuck Samuels, a lawyer at Mintz Levin, said there’s partisan disagreement over the levels of sequestration, but less discord about agencies having more control over where reductions occur within their jurisdictions.

Frank Shafroth, director of the Center for State and Local Government Leadership at George Mason University, said state and local governments could come out better under a new budget deal if sequestration is eliminated because the cuts have forced state and local governments to shoulder more of the burden for financing transportation and education.

However, “changing something that’s already there is tough,” he said.

Some market participants said a committee agreement could include a timetable or broad principles for tax reform.

Collet said the committee could set targets for tax reform, such as a timetable or tax bracket rates, for the tax-writing committees. While tax-exemption for municipal bonds is not likely to be specifically targeted by the committee, munis could be ensnared within larger goals, she added, noting Murray’s fiscal 2014 budget suggested placing limits on tax preferences and deductions.

Bond dealers and issuers will have to keep educating Congress and the White House about how changes to the tax exemption for munis would increase borrowing costs for state and local governments, Collet said. Although curbing the tax exemption may appear “attractive” to the federal government as way to fill a budget gap, a reform would actually be “a federally imposed local tax,” she said.

Shafroth thinks there’s a greater chance that the committee will interfere with the attractiveness of tax-exempt municipal bonds than drop the sequester. An agreement that suggests revenue from tax reform be used to reduce individual and corporate tax rates would make munis less appealing to investors, he said.

However, Shafroth said he is skeptical about whether the committee will produce any budget agreement. He estimates it’s “less than 50% that they’ll actually agree on something.”

Samuels said a budget agreement could include a timetable for tax reform or tax brackets, whether reform should be revenue neutral, or even a statement telling the tax-writing committees how much revenue should be obtained from cutting exemptions and deductions.

If the committee discusses tax reform, “certainly municipal bonds might be on the table,” he said, adding that the chairmen of the tax-writing committees would likely be interested in moving forward with tax reform if they get instructions.

But some congressional observers said it may be difficult for the committee to agree on an approach to tax reform because the Republicans want it to be revenue neutral, and the Democrats favor raising revenues.

“That’s a very difficult hurdle for the House and Senate Democrats and Republicans to clear,” said Micah Green, a partner at Patton Boggs and the former president and co-chief executive officer of SIFMA.

John Buckley, former chief tax counsel for the House Ways and Means Committee Democrats, said of the committee: “I don’t think this has any impact on tax-exempt bonds.”

Daly noted that even if the conference committee doesn’t say anything about tax reform, House Ways and Means Committee Chairman Dave Camp, R-Mich., has said that he intends for his panel to vote on a tax-reform bill by the end of the year.




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