Municipals are a small part of the American Jobs Act
President Obama held a ceremony on Monday in the Rose Garden, complete with a backdrop of teachers and law enforcement officers, to promote his American Jobs Act. The President has insisted that his proposal would be fully paid for by tax increases on the wealthy. What was less reported was that the $447 billion of proposed tax increases, Section 401 in the legislation (page 134), would not occur until 2013 and would stretch over 10 years. So under the President’s proposal there would need to be tax increases of approximately $47 billion a year from 2013 through 2023.
It’s been reported that Republicans are cool to the President’s proposal and it’s likely that they will object to paying for new stimulus programs with revenue generated in the next decade. In addition, the President’s proposal for $447 billion in tax increases will have to be added to the $1.5 trillion of savings that the Congressional super-committee will be looking for. So if the President’s proposal is embraced, the super-committee will need to find $2 trillion of savings from the federal budget over the next 10 years.
The bulk of the proposed tax increases in the President’s plan will come from adjustments in the deductions allowed for municipal interest and itemized deductions for individuals earning over $200,000 per year. This would account for about $400 billion of tax increases over ten years.
An additional $47 billion of taxes would come from levies on corporate jets, oil and gas companies, and hedge fund and private equity carried interest.
As the media began to report on these proposals, investors in municipal bonds took notice, worried that if adopted these reforms would be a first step to end the tax exemption for interest income on municipal bonds. What is not clear when you look at the specific language of the legislation and the statistics from the Internal Revenue Service is that this proposal would have a very big effect on muniland.
The way Section 401 reads, there would be a limit on the amount of combined municipal interest deductions and itemized deductions that taxpayers can exempt. So the individual taxpayer (or their accountant) has flexibility in how they manipulate their taxes. The amount of itemized deductions, claimed by wealthy taxpayers for home mortgage deductions and other deductions, is about eight times greater than the exclusions for municipal interest (see the chart above). So the changes would affect the desirability of tax-exempt interest from municipal bonds, but it’s not clear it would be that substantial.
Like many others I have said the probability that the president’s proposal gets adopted is very low. But it does give us a reason to dig down into the data on municipal bond ownership and interest income earned by individuals. The data below is from the IRS for 2009 and gives us a good view of how widely held municipal bonds are. Those who earned between $100,00 and $200,000 are the biggest group of holders and the wealthiest taxpayers (plus $200,000 per year) have collected the majority of earned interest. This mirrors the massive concentration at the top of the wealth pyramid. Maybe the best thing to say about the President Obama’s proposal is that it is targeted at the richest Americans.