Senate Approves Budget Setting Stage for Release of Tax Reform Details

The Senate approved its fiscal year 2018 budget resolution the evening of October 19, 2017 on a largely party-line vote of 51-49, with a vote against from Republican Senator Rand Paul (R-KY). The House of Representatives passed its budget resolution on October 5, 2017 on a party-line 219-206 vote. Both the House and Senate budget resolutions rely on budget reconciliation instructions that would allow tax reform legislation to be advanced with a majority vote in the Senate, i.e., without requiring 60 votes to overcome a filibuster. A unified budget must be passed in order for Republicans to advance tax legislation through the budget reconciliation process.

In an effort to speed up the timeline on tax reform and potentially avoid a budget conference that could take several weeks, House and Senate leaders have been negotiating a compromise budget. An amendment offered by Republican Senator Mike Enzi (R-WY), and approved by the Senate, amended the Senate Budget to include the changes that Senate and House leaders privately agreed on for a compromise budget. If the House accepts the Senate budget as it is, there will be no need for a budget conference. Once Congress passes a unified budget, the next step will be to introduce tax reform legislation for mark-up in the House Ways and Means and the Senate Finance Committees. Given the potential for an expedited conclusion to the budget process, the long-awaited details and legislative draft for tax reform may be available by the end of October or early November. The Republican goal is to pass tax reform legislation through both houses before the end of 2017. However, the Senate process for tax reform is likely to continue into the first quarter of 2018.

Key Provisions in House and Senate Proposals

Both budget proposals are clearly targeted towards the Republican objectives set forth in the Unified Framework for Fixing Our Broken Tax Code (Unified Framework) released by The Trump Administration, House Committee on Ways and Means, and Senate Finance Committee. For further details on the Unified Framework, prospects for a successful vote on tax reform, and what that reform might entail, see our prior Tax Release.

The House budget resolution provides instructions for deficit-neutral tax reform. In addition, 11 House committees were instructed to report legislation for $203 billion in savings and reforms over the 10-year budget window. It assumes $1.8 trillion in additional revenues from faster projected economic growth, $300 billion of which is earmarked for tax reform, and the remaining $1.5 trillion for deficit reduction (a net $300 billion revenue loss based on traditional revenue scoring). The Senate budget resolution provides instructions for tax reform that would increase deficits by up to $1.5 trillion over the 10-year budget window. It provides for no savings other than $1 billion from the Energy and Natural Resources Committee. It assumes $1.4 trillion in additional revenues from faster projected economic growth. In the potential House and Senate budget agreement, the House would have to approve the Senate’s plan to grow the deficit by no more than $1.5 trillion over the House provision for revenue-neutral tax reform. The House would also have to let go of the additional $203 billion in savings and reforms. The Senate budget as amended includes a concession to the House over higher defense spending without offsets, which is designed to appeal to House conservatives.

Some Temporary Measures Likely

Republicans are relying on budget reconciliation to drive tax reform, but this process may impact their ability to enact permanent tax reform measures. According to the Senate Byrd rule the deficit may not be increased beyond the current 10-year window under a budget reconciliation process. Thus, the tax legislation could lose revenue in the first 10-year budget window, but not beyond the current 10 years. Absent creative structuring, the tax cuts contemplated under budget reconciliation would sunset after 10 years (as with the tax cuts enacted under budget reconciliation in 2001 and 2003 during the Bush Administration). Smaller, more permanent tax cuts or some mixture of temporary and permanent items that balance out to meet the Byrd rule requirements are possible alternatives. For example, The Unified Framework indicated that capital expensing would be a temporary measure lasting at least five years. When tax reform details are released, additional temporary measures may be included to make the math work under budget reconciliation constraints.

The Takeaway

With the approval of the Senate budget resolution, Republicans are one step closer to the release of their detailed legislative proposal for tax reform. Thus far, Republicans have not unveiled critical details regarding specifics behind qualification for a special 25% passthrough-business rate, curtailment of deduction for interest expense for C corporations and other taxpayers, and the details of expected anti-base erosion and other base-broadening measures for businesses. Republicans may also clarify whether there will be a fourth top tax bracket for individuals of 39.6% (or higher). If the House approves the Senate budget with amendments, a time consuming budget conference will not be necessary and tax legislative details could be released by the end of October or early November.

There are still many obstacles for tax reform legislation to clear before it will be ready for a full vote. Garnering 50 of 52 Republicans in the Senate or peeling off a few red state Democrats to pass tax reform under budget reconciliation will be very difficult. With the clock ticking towards the end of 2017, tax reform by the end of 2017 seems unlikely but not impossible. At this point, taxpayers should continue to prepare for potentially significant tax changes including a reduced tax rate on C corporations and a territorial (100% dividend exemption) system of taxation that includes a mandatory deemed-repatriation tax on multinational corporations.