(Bloomberg News) The bipartisan deficit-reduction plan gaining momentum in the U.S. Senate would likely require lawmakers to curtail or end the preferential tax treatment of capital gains and dividends.
The proposal from the so-called Gang of Six doesn't mention capital gains and dividends. The plan's goals for income tax rates, federal revenue and progressivity would likely require Congress to raise tax rates on investment income, said tax analysts who favor and oppose preferential tax rates on capital gains and dividends.
The proposal, which would lower income tax rates and broaden the tax base, is similar to plans issued over the past year by a bipartisan fiscal commission and the Bipartisan Policy Center in Washington. Those plans suggested taxing capital gains and dividends as ordinary income for the first time since 1990.
"You cut marginal tax rates and you still want to have a progressive tax system, you have to tax capital gains," said Leonard Burman, a professor of public affairs at Syracuse University in New York who helped write the Bipartisan Policy Center's report.
Individual and corporate income is taxed at a top rate of 35 percent. Dividends and capital gains on most assets held longer than one year are taxed at 15 percent, under tax laws set to expire at the end of 2012. The 2010 health-care law included a new 3.8 percent tax on capital gains, dividends and other passive income reported by high-income taxpayers, and that extra tax is scheduled to take effect in 2013.
The bipartisan proposal, as outlined in a five-page document obtained by Bloomberg News, would require Senate committees to produce legislation that would reduce spending and raise revenue.
The Senate Finance Committee would be instructed to lower tax rates, eliminate the alternative minimum tax and "reform" tax breaks for health care, charitable giving and homeownership.
The outline calls for three individual income tax brackets with a top rate between 23 percent and 29 percent, and the corporate rate would drop to a single rate of between 23 percent and 29 percent. The tax system would need to retain its current progressivity and keep benefits for low-income workers such as the earned income tax credit.
To make up the revenue and to offset lowering top income tax rates on high earners, lawmakers will look at investment taxation. The congressional Joint Committee on Taxation estimates that preferential tax rates for capital gains and dividends will cost the Treasury $84.2 billion in forgone revenue this year. Eliminating the preference wouldn't necessarily raise that much money, because capital gains realizations are sensitive to tax rates.