WASHINGTON — President Obama offered potentially good and bad news for the municipal market on Thursday.
He said he could support the idea of a surtax on millionaires to pay for his jobs bill, but added that the next step is to consider deficit reduction and tax reform proposals, some of which market participants fear would hurt the tax-exempt bond market.
Following the latest in a series of speeches touting his jobs bill and pushing for Congress to pass it, the president told reporters that he would support Senate Democrats’ proposal to impose a 5.6% surtax on those with taxable incomes of $1 million or more to pay for his American Jobs Act of 2011.
The surtax would be an alternative to the bills’s revenue-raising proposals, which would include capping the value of tax-exempt interest and other tax preferences and deductions at 28% for higher-income taxpayers.
“We’ve always said that we would be open to a variety of ways to pay for it,” Obama said during a press conference at the White House. “So the approach that the Senate is taking I’m comfortable with in order to deal with the jobs bill.”
Municipal market participants have complained that the proposed 28% cap, which would apply to individuals with incomes of $200,000 or more and married couples with incomes of $250,000 or more, would significantly reduce demand for munis and raise issuers’ borrowing costs. A number of Senate Democrats balked at the 28% cap and other proposed cuts, leaving no possibility it would be approved by the Senate.
On Wednesday, Senate Majority Leader Harry Reid, D-Nev., proposed the surtax, saying it would take effect in 2013 and would raise roughly $450 million in revenue over a 10-year period. Democrats such as Senate Banking Committee chairman Tim Johnson of South Dakota, who had opposed the series of tax hikes proposed by Obama, said he could support the millionaire tax.
A surtax, however, would increase demand for tax-exempt munis.
“This would mean a top tax rate of almost 50%,” said Howard Gleckman, a resident fellow at the Tax Policy Center. He said if the Bush tax cuts expire and the top rate rises to 39.6%, that rate along with the 3.8% Medicare-related tax on ordinary and investment income from the health care bill and the 5.6% surtax would take the top rate to 49.90%.
“It would provide a lot of incentive for people to buy tax-exempt bonds if Obama doesn’t abolish them first,” Gleckman said.
Reid said he wants to schedule a vote on the jobs bill next week. But lobbyists said the bill faces an uphill battle in the Senate because even if Reid could get 51 votes along party lines, it is unlikely he could get the 60 votes needed for cloture to limit debate. The bill will never be approved by the House because Republicans continue to insist they will oppose any tax hikes.
“Obviously, it’s favorable from our parochial point of view,” said Chuck Samuels, a partner at Mintz, Levin, Cohn, Ferris, Glovsky and Popeo, said about Obama’s support of the surtax. “We have a fair chance of escaping punitive action before Thanksgiving. But in the long run, of course, there’s a greater reason to be concerned because the president has already made two punitive proposals.”
Obama said legislation also is needed to reduce federal debt and the deficit.
“What I’ve always said is that not only do we have to pay for the jobs bill, but we also still have to do more in order to reduce the debt and deficit,” he told reporters. “We’re still going to need to reform this tax code to make sure that we’re closing loopholes, closing special interest tax breaks, making sure that the very simple principle, what we call the Buffett rule, which is that millionaires and billionaires aren’t paying lower tax rates than ordinary families. … So there’s going to be more work to do with respect to making our tax system fair and just and promoting growth.”
Market participants are concerned that the draft debt-reduction bill Obama sent to the so-called super committee contains a provision they contend would be more harmful to tax-exempts than the 28% cap in the jobs bill, and possibly even lethal.
The draft would require the Office of Management and Budget to establish ratios for debt as a percentage of gross domestic product beginning with fiscal 2013. The ratios would have to be reduced 0.2 percentage points every year. If debt rose and the ratio was exceeded in any given year, automatic cuts in spending and tax preferences, including tax-exempt interest, would be triggered. The process would be repeated each year.
Market participants say the proposal, if enacted, would drive investors away from the tax-exempt market because they would never know in any given year whether muni interest would be tax-exempt. The super committee is charged with coming up with a plan by Nov. 23 to reduce the federal deficit by $1.5 trillion.