Senate Passes Inflation Reduction Act-What are the Tax Implications For Businesses
Thanks to Joe Manchin, the Senate just approved a massive spending bill named the Inflation Reduction Act of 2022 in a party-line vote after a marathon weekend session. The amended bill was narrowly passed with a vote of 51-50 vote, with the VP Kamala Harris casting her tie-breaking vote would represent the largest climate investment in US history. It would also make major changes to health care policy by giving Medicare the power for the first time to negotiate the prices of certain prescription drugs and extending expiring health care subsidies for three years. The legislation would impose new taxes to pay for it.
The legislation is being marketed as a spending bill focused on funding clean energy initiatives, lowering prescription drug costs, and creating new jobs, among other things. About $433 billion would be spent on new investments, while the bill would reduce government budget deficits by approximately $300 billion, according to the latest version published by the Senate. The bill, titled the Inflation Reduction Act of 2022, aims to do the following:
- Reduce the deficit
- Invest in domestic energy production and manufacturing
- Reduce carbon emissions by roughly 40% by 2030
- Allow Medicare to negotiate for prescription drug prices
- Extend the expanded Affordable Care Act program for 3 years, through 2025
- Potentially increase taxes for corporations and carried interest
Business news publication Barrons reported that president Joe Biden praised the work of lawmakers and urged the House to pass the bill so he could sign it. “Today, Senate Democrats sided with American families over special interests,” Biden said in a statement released by the White House. “I ran for President promising to make government work for working families again, and that is what this bill does.”
Holdout Sen. Kyrsten Sinema, D-Ariz., finally agreed on Thursday to side with her fellow party members—provided notable changes were made to the legislation. The bill no longer contains provisions that would close the so-called “carried-interest tax loophole” that allows wealthy hedge fund managers and private equity financiers to pay a lower capital gains tax rate (instead of being taxed at ordinary income rates) on their income. The removal of this key tax provision from the bill represents the latest win for the private equity and hedge fund industries. For years, those businesses have successfully lobbied to kill bills that aimed to end or limit a quirk in the tax code that allows executives to pay lower tax rates than many of their salaried employees.
While the bill could continue to undergo revisions, here are five topics to watch.
Raising corporate taxes
Many corporations pay very low taxes despite making significant profits under generally accepted accounting principles, commonly known as book income. That is because their taxable profits are usually lower than their book incomes, due to a slew of deductions and credits under the Internal Revenue Service code.
The Inflation Reduction Act would require companies with at least $1 billion in income to apply a 15% tax rate on their book income. If that comes out to be higher than the traditional calculations—21% of profits less deductions and credits—companies would have to pay the 15% rate.
The measure is expected to raise $313 billion in new revenue, providing more than 40% of the bill’s funding. However, many economists say it would be better to instead raise the headline corporate tax rate or eliminate some tax breaks.
Stock buyback taxes
Democrats also have a 1% excise tax on stock buybacks, which have exploded in recent years and often come under attack. Critics argue that companies should be using earnings to reinvest and grow, or pay back shareholders via dividends, rather than artificially boosting share prices.
A buyback tax could bring in about $74 billion in revenue, Senate Majority Leader Chuck Schumer, D-N.Y., told reporters on Friday.
However, some say taxing buybacks would have a sweeping effect across the entire market, hurting mom-and-pop investors as much as institutional investors. “The tax on buybacks could slow one of the key drivers of equity market demand,” wrote Mark Hackett, chief of investment research for Nationwide Investment Management, on Friday.
As suggested in the bill’s name, one of its key goals is to reduce scorching-hot inflation. Deficit reduction could curb demand in the economy and help to lower prices. The bill’s other provisions, such as prescription drug pricing reform and EV credit, are expected to bring down healthcare and energy costs, respectively.
However, many economists say the bill’s net impact on inflation will likely be quite modest and not felt for some time, given how long it will take to enact many of its programs.
Cheaper prescription drugs
If the Inflation Reduction Act passes, Medicare could directly negotiate prescription drug prices with drugmakers for some of their most expensive medications—meaning patients would likely pay less. If drug companies raise prices faster than inflation, the new bill would require them to rebate the difference to Medicare patients. There would also be a $2,000 a year cap on Medicare enrollees’ out-of-pocket spending for prescription drugs.
Combined, these policies would save the federal government roughly $288 billion in the next 10 years, according to Congressional Budget Office estimates. However, critics argue the new policies would discourage innovation from pharmaceutical companies.
Tax credits for EV buyers
The bill would invest $369 billion in programs that aim to accelerate the transition to cleaner energy, increase domestic energy production, and lower carbon emissions by 40% by 2030. The money would go to solar panels, wind turbines, and other clean energy sources—and electric vehicles consumers could benefit, too.
EV buyers are currently eligible for up to $7,500 in tax credits, but benefits are limited to the first 200,000 eligible vehicles each auto manufacturer sells. The new bill would lift this cap—and offer up to $4,000 in credits to people who buy used EVs.
Carola Binder an associate professor of economics at Haverford College and a visiting scholar at the Mercatus Center at George Mason University recently wrote an Op-Ed for The Hill, In which she brings up some issues such as why is the “Inflation Reduction Act” such a problematic name? Even if all of these policies work just as intended, Congress has already delegated price stabilization to the Federal Reserve. Central bank independence requires that the Fed be allowed to pursue its price stability mandate — which it interprets as 2 percent annual PCE inflation — regardless of what Congress and the president do. In other words, no matter the stance of fiscal policy, the Federal Reserve is expected to use monetary policy to keep inflation near its target over the longer run. Central bank independence is a valuable norm that is intended to promote macroeconomic stability by keeping politics out of monetary policy. I will update this post if it gets signed into law.