If the bond provisions in House Ways and Means Committee Chairman Dave Camp's tax reform proposal are implemented, the municipal market could become "bifurcated," experts said.
"Large, liquid, high-grade issuers would adapt, and continue to be able to borrow in a taxable market. But these only represent a few hundred among some 50,000 state and local government borrowers," Natalie Cohen, managing director of municipal securities research for Wells Fargo Securities said in a commentary piece released Monday. "The rest would likely return to a private, bank-based market at higher cost and lose the liquidity of a national market, in our opinion."
The tax-reform draft legislation released last week by Camp, a Republican from Michigan, contained several provisions that would hurt the muni market. The plan would effectively impose a 10% surtax on muni interest income earned by individuals with modified adjusted gross incomes of more than $400,000 and couples with more than $450,000. Camp's proposal would also eliminate the ability for issuers to issue tax-exempt private activity bonds and advance refunding bonds, and prohibit future issuance of tax-credit bonds and bank-qualified bonds.
Those who would face the surtax are the predominant purchasers of tax-exempt bonds, Frank Shafroth, director of the State and Local Leadership Center at George Mason University, said in a special report released Friday. As a result, "the proposal, if enacted, could have a disproportionate impact on the cost of capital borrowing for state and local governments."
Shafroth added that as a result of the surtax, there could be a bifurcated market "with current, outstanding bonds becoming more valuable, but significantly higher borrowing costs to state and local tax and ratepayers for future bonds."
Cohen said that if Camp's plan makes it harder for issuers to come to market, the bond insurance business could get a boost. When coming to market is too expensive for issuers, insurers can provide liquidity and market access.
The proposal also would repeal the deduction for state and local taxes. But despite the fact that provisions of Camp's plan would hurt state and local governments, elected leaders from these governments did not testify before Ways and Means, and that committee and Joint Committee on Taxation did not provide analyses of the revenue impacts of Camp's plan on states and localities, Shafroth said in his report.
Camp's plan has almost no chance of passing this year. But Cohen, who cited Shafroth's analysis in her paper, said that the proposal gives a menu of revenue-raising items that "provide a resource that could get picked over as the president and Congress tackle the next federal budget."
JCT found that Camp's draft plan could raise GDP by as much as 1.6% per year from 2014 to 2023. However, the committee's analysis is based on a 10-year time horizon, and there are significant costs to the plan after that time period, Cohen said.
