January 1, 2013

Fiscal Cliff Averted

By Christy Gullion

Early this morning, the Senate rang in the New Year by approving legislation to avert the economic impacts of the fiscal cliff. The bipartisan agreement makes changes to tax policy by allowing for the first income tax rate increase in nearly two decades and also delays the sequester by offering $24 billion in other spending reductions.  The House is scheduled to take up the legislation at noon today. Conservative opposition in the House has thwarted earlier fiscal cliff proposals and Republicans will likely need the support of Democrats to clear the legislation. Democratic leaders said late Monday they were still reviewing the bill, but with the White House backing it, Democrats seemed likely to favor it.

The deal agreed to in the Senate would permanently extend the 2001 and 2003 tax rates for ordinary income, capital gains, and dividends for individuals with annual incomes below $400,000 and couples with incomes below $450,000. It would preserve the current estate tax exemption and permanently prevent the alternative minimum tax (AMT) from imposing higher taxes on middle-income Americans. The agreement also retroactively renews a package of one- or two-year reauthorizations of tax extenders, including the R&D tax credit.

As for spending, the measure would delay the sequester for two months — until the beginning of March — and cover the $24 billion cost with a combination of new revenue and alternative spending cuts over a 10-year period.  The plan calls for reducing the FY2013 and FY2014 discretionary spending caps determined in the 2011 Budget Control Act (PL 112-25) by $12 billion. The spending cuts would be evenly divided between defense and non-defense spending. Another $12 billion would be new revenue generated by making it easier for owners of some tax-deferred retirement plans to switch to Roth IRAs. The two-month sequester delay is designed to give Congress more time to figure out a substitute for across-the-board cuts, which would slice $55 billion from defense, about $39 billion from domestic discretionary spending, and $16 billion from mandatory spending programs during the remaining nine months of FY2013.

While it is good that Congress is finally taking action on tax issues and averting the worse parts of the sequester, they have set themselves up for another fiscal fight in the early months of the 113th Congress. The nation will bump up against another debt ceiling limit in February and Congress will need to take legislative action at that time to increase the limit. This will certainly be another fight on reducing federal spending, and will coincide with the new deadline to prevent sequestration that the Senate approved early this morning. Additionally, Congress has yet to finalize FY2013 appropriations and it seems clear that they will approve a year-long continuing resolution (CR) when the current CR expires at the end of March. The big question yet to be answered is how spending cuts will be determined if the across-the-board cuts are to be avoided by the new end of February deadline.

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