Calderon Tries To Hijack Bush’s Tax Proposal… House Chairman Offers To Extend Investment Incentive Calderon Rejected

April 25, 2003
Copyright © 2003 THE PUERTO RICO HERALD. All Rights Reserved.

. .. Calderon Tries to Hijack Bush’s Tax Proposal

Fresh from his victory over Saddam Hussein, President Bush launched a new war in recent days. The goal? To save $200 billion in tax cuts over 10 years proposed in his fiscal year 2004 budget request to the Congress. The seriously endangered cuts include his priority proposal: ending the taxation of individuals for dividends that they receive from companies.

Supporters of this proposal say the current tax is double taxation of the profits as the dividends represent earnings that the companies pay income taxes on as well. Eliminating the taxation of dividends would means that income taxes would only be paid on the earnings once -- at the corporate stage.

Representatives of Puerto Rico Governor Sila Calderon ("commonwealth" party/no national party) have quietly tried to hijack the President’s proposal, however. They want to make it a vehicle for the approval of her top federal priority: permanent tax exemption for profits that companies based in the States receive from subsidiary companies in Puerto Rico and other U.S. territories.

One of three tax exemptions contained in Calderon’s proposal would deduct 85% of dividends that companies receive from territorial subsidiaries from a company’s taxable income. (Other provisions would exempt 90% and 100% of profits respectively from federal income taxation. Questioned about the different provisions, a Bush Administration official labeled the differences between 85% deduction and the 90% and 100% exemptions as "a tax on the dumb." But Calderon aides have said that the 85% deduction was sought by some companies.)

The similarity in the terms --such as "dividend" -- used in the Bush and Calderon proposals apparently gave rise to the Calderon Administration’s idea of using the Bush proposal to obtain approval of the very different Calderon proposal.

Combined with Bush’s proposal, Calderon’s, however, would mean no taxation of corporate profits from Puerto Rico at either the corporate or shareholder level -- a very different concept from limiting taxation to one time.

Calderon’s proposal was rejected by the Republican chairman of the tax policy committee in the U.S. House of Representatives — Ways and Means Chairman Bill Thomas (CA). Thomas had previously opposed Calderon’s proposal on policy grounds concerning the proposal itself.

The proposal has also been opposed by Bush aides and by the top Democrat on the Senate tax policy committee -- Finance Chairman Max Baucus (MT).

In addition to policy problems, Calderon’s quiet maneuver also threatened to create a cost problem for Bush’s proposal -- a proposal that already is seriously endangered because of its cost. Calderon’s proposal would add a cost of at least $6 billion to Bush’s. The primary congressional objections to Bush’s proposal are its $396 billion cost at a time of record -- and rapidly increasing -- federal budget deficits.

Bush’s budget proposed $726 billion in tax cuts, including the $396 billion dividend tax elimination. The Republican-controlled House of Representatives initially approved a budget for fiscal year 2004 that reduced the permissible amount of tax cuts from Bush’s $726 billion to $550 billion. However, two Senate Republicans -- George Voinovich (OH) and Olympia Snowe (ME) -- joined with Democrats to force the maximum amount even lower to $350 billion in the final federal budget agreed to the week before last.

The budget limits the amount of the tax cuts that the Congress can approve without 60 votes in the 100 member -- almost evenly divided -- Senate if any one member disapproves.

The Congress determines the final federal budget without the necessity of presidential approval or a two-thirds majority override of a president’s disapproval. The actual tax cuts, however, would need to be made through tax legislation. The Congress’ Republican leaders hope to have such a bill passed by the end of May.

President Bush began aggressively campaigning this week for the $550 billion in tax cuts that House Republicans and most Senate Republicans were willing to accept. Aides said that if tax legislation this May is limited to $350 billion as the budget provides, Bush will seek another $200 million in cuts this September just before fiscal year 2004 begins.

They are also considering reducing the term of the tax cuts from 10 years to seven. This would shrink the cost of the full $726 billion proposal to about $500 billion.

Another strategy for obtaining a greater amount of tax cuts is to identify further spending cuts that could be made or tax or fee increases that could be imposed.

Among the ideas that the Senate Finance Committee is considering is taxing the income of U.S. businesses that set up corporate shell owners in tax havens outside of the States to avoid income taxes. The legislation could raise an estimated $3 billion.

House Chairman Offers to Extend Investment Incentive Calderon Rejected

In rejecting Calderon’s idea of expanding Bush’s proposal to exempt corporate dividends received by individuals from taxation to include her idea of exempting dividends received by companies, Ways and Means Committee Chairman Thomas suggested that he would be willing to extend a current tax incentive for economic activity in Puerto Rico by companies based in the States.

The incentive gives companies already in the territory credits against their tax bills for wages paid and investments in plants and equipment there. It is known by the provision of the federal Internal Revenue Code (IRC) that provides the benefit: Section 30A. Current law limits it to existing companies and ends it altogether in 2005.

Although Calderon was elected pledging to obtain an extension of 30A, she has previously rejected an offer by the then chairman of the Senate Finance Committee, Baucus, to try to extend 30A.

Calderon’s proposal to simply exempt corporate profits from Puerto Rico -- through an amendment to IRC Sec. 956 -- is more similar in concept to the other current tax break that companies already in the territory can take. IRC Sec. 936 gives companies a credit against the taxes due on 40% of the income that they attribute to U.S. territories. It is also limited to existing companies and it also is due to totally end in 2005.

Prior to 1993, Sec. 936 provided a credit against the taxes due on 100% of the income. It was considered a prime example of unjustifiable "corporate welfare." Calderon’s proposal would more than double Sec. 936’s current tax break to 85-100% of profits, effectively recreating the much-criticized original Sec. 936.

In initially rejecting Calderon’s 956 amendment, Thomas said he was opposed to creating another "tax subsidy," referring to Sec. 936. He also, however, said that he was willing to explore ways of helping Puerto Rico keep existing manufacturing plants from moving to foreign locations.

Several plants in labor intensive industries, such as clothing manufacturing and tuna canning, have left Puerto Rico for foreign locations in recent years. They have been attracted by lower wage and investment costs. An added incentive in many cases is that new U.S. free trade agreements mean that products from the countries can enter the lucrative and large U.S. market duty-free.

As a U.S. territory, Puerto Rico has higher wage and environmental costs than most foreign locations. It has previously had a cost advantage of being a part of the U.S. market but that advantage is being eroded by free trade agreements.

One reason that federal tax policy officials have rejected Calderon’s Sec. 956 amendment is that it would not help struggling companies in Puerto Rico. This is because Calderon’s proposal only exempts profits from taxation.

Related to this is the understandable belief that tax exemption should not be given to companies that are very profitable despite having a tax liability. That would only serve the purpose of increasing their profits. In addition, it would provide tax benefits without requiring the companies to serve the public purpose of hiring more workers or make more investments in Puerto Rico. The companies that helped Calderon craft her proposals and that would be the major beneficiaries of it, at least initially, are very profitable.

Mostly international producers of pharmaceuticals, these companies have been so profitable in Puerto Rico they have invested billions of dollars there since the 1996 enactment of the law that ends Sec. 936. They also have announced plans to invest billions more even after Sec. 936’s end.

Such companies would receive much greater tax benefits from having their profits exempted from taxation than they would from tax credits for wages and investments. They earn huge profits in Puerto Rico in comparison to their wage and investment costs.

The "Washington Update" appears weekly.

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