President Obama’s fiscal year 2015 budget request to Congress would cap certain tax deductions for high-income families, a provision that could drive up municipal bond borrowing costs for local governments. And a new federal tax reform proposal introduced in Congress by House Ways and Means Committee Chairman Dave Camp (R-Mich.) includes similar measures that could impact utility financing.
According to a budget summary released by the White House, the President’s plan would limit the tax rate at which high-income taxpayers can reduce their tax liability to a maximum of 28 percent. The limit would phase out the ability of high earners to claim a number of itemized deductions and other tax benefits, including tax-free interest earned on municipal bonds.
Rep. Camp also proposes limits on deductions and exemptions for individuals and families with high incomes. Taxpayers in a new top bracket would pay a 10 percent surtax on portions of income above $450,000 for joint filers (or $400,000 for singles) that would otherwise be exempt from taxation, including interest earned on municipal bonds.
The current tax-exempt status of municipal bond interest leads investors to accept lower interest rates on the bonds, thus allowing communities to stretch their dollars further when selling bonds to finance water infrastructure improvements. But phasing out this benefit would likely cause these costs to rise, causing investors to demand higher interest rates from communities to make up the difference. The cost of the Obama and Camp proposals to local communities would likely be significant given that high-income taxpayers typically invest in municipal bonds at a higher rate than other individuals.
Many members of Congress, however, remain staunchly opposed to any rollback of municipal bond tax benefits. President Obama has recommended capping the value of tax exemptions for high-income earners several times in the past, but Congress never advanced any of the proposals. With regard to Rep. Camp’s proposal, the prevailing sense on Capitol Hill is that it has little chance of advancing this year. Instead, it is viewed as a first step toward a larger debate over appropriate revisions to the tax code.
A summary of the President’s FY15 budget and Rep. Camp’s tax reform plan are online.