The proposed 28% cap on the value of tax exemption would be far less damaging for the municipal bond community than a top income tax rate of 25%, a former congressional tax counsel said here at a conference.

Speaking on a panel here at the American Bar Association’s tax-exempt financing committee meeting John Buckley, former chief democratic tax counsel on the House Ways and Means Committee, added that from a substantive standpoint, the 28% cap is the most likely proposal to be considered by lawmakers.

“If you look at the difference in the benefit of tax exemption between 2012 and 2013, assuming this provision were in effect, it’s not a big reduction,” Buckley said, adding that the impact of the 28% cap is exactly equal to a tax reform plan that would reduce the top individual rate to 28%.

Buckley explained that in 2012, an individual at the top tax bracket would have a 35% benefit from tax exempt bonds, while this year, if a 28% cap were enacted, the benefit would be 31.8% when including the new 3.8% Medicare tax on wage and investment income for high income earners.

“A Dave Camp vision of tax reform would be more adverse,” Buckley said, referring to the House Ways and Means Committee chairman’s proposal for a 25% top tax rate. “The impact on tax exempt yields from a 25% taxable rate would be a greater increase in yields than a 28% cap. Even if you kept the exemption in that type of reform, you’re paying an awful price.”

The 28% cap proposal, which had support from leaders of both parties in the fiscal cliff discussions, was first introduced in President Obama’s jobs bill in 2011 and then again in his fiscal year 2013 budget last February.

Buckley predicted that it’s unlikely muni bonds will be sought after in any of the upcoming fiscal discussions such as sequestration or the debt ceiling but instead will be part of larger grand bargain.

“At some point deficit reduction legislation is going to be forced by outside events and both parties will come to the table with a price,” Buckley said. “And at that point there will be a need for additional revenues.”

The Joint Committee on Taxation has estimated that repealing muni bonds on a prospective basis would raise $124 billion over 10 years.

Michael Decker, managing director and co-head of the municipal securities division at the Securities Industry and Financial Markets Association, agreed with Buckley that even though threats to curtail or eliminate tax exemption are the most serious they’ve been in decades, it is unlikely to occur in any of the “mini fiscal cliffs” in the coming months.

“If and when Congress feels pressure to enact serious fiscal reform I think we’re definitely on the table,” Decker said.

Decker and Buckley also agreed that muni market participants defending tax exemption should make the case to lawmakers who doubt munis are efficient by citing Build America Bonds.

“SIFMA members just loved BABs,” Decker said. “We think it was a tremendous program. It came at just the right time when the capital markets were in a very weak state right at the height of the financial crisis. It was a time when it was difficult for many state and local governments to access the market. It opened up a whole new world of investors to municipal finance.”

The direct-pay BAB program was created in early 2009 under the American Recovery and Reinvestment Act, but expired at the end of 2010. Issuers receive a subsidy payment equal to 35% of their interest costs from the Treasury Department.

Several Democratic lawmakers and President Obama have tried to resurrect the program, but Republicans oppose these efforts, claiming BABs enrich underwriters and encourage issuers with the lowest credit ratings to borrow more.

Speaking on the panel with Decker and Buckley, Vicky Tsilas, the new associate tax legislative counsel with the Treasury Office of Tax Policy, told the group, “Don’t underestimate the seriousness of the debate for tax exempt bonds. It might not happen now. It might not happen in a couple of months but this is a really big debate going on.”

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