Democrats release slimmed-down reconciliation bill

In a surprise announcement late on July 27, Sen. Joe Manchin (D-W.Va.) revealed he and Senate Majority Leader Chuck Schumer (D-N.Y.) have reached an agreement on a slimmed-down version of a reconciliation bill, titled the Inflation Reduction Act of 2022 (the Act).

Over the last year, Manchin has been Senate Democrats’ primary holdout from enacting President Joe Biden’s ambitious agenda. There have been three distinct reconciliation negotiations during which Manchin has brought Senate Democrats closer to a more centrist position (with each successive iteration decreasing in scope and total cost), only to ultimately pull his support citing concerns over inflation. Before Schumer and Manchin’s most recent announcement, it appeared the latter would only support a reconciliation bill limited to lowering healthcare costs.

Inflation Reduction Act of 2022

The Act is estimated to raise $739 billion and spend $433 billion over the next 10 years, leaving an estimated $306 billion applied toward deficit reduction, a priority for Manchin. The bill’s tax title includes:

• 15% corporate minimum tax
  For tax years beginning after Dec. 31, 2022, the Act imposes a 15% tentative minimum tax on the adjusted financial statement (AFS) income of certain corporations. Affected corporations are those with an average AFS income in excess of $1 billion over the three preceding tax years.
• Carried interest modifications
  For tax years beginning after Dec. 31, 2022, the Act would change carried interest taxation. Partnership interests held in connection with the performance of services generally will not receive long-term capital gain treatment until a partner’s holding period exceeds five years, an increase from the current three-year requirement. Further, in a significant change from current law, a carried interest holder’s share of partnership section 1231 gains and qualified dividends would also be subject to recharacterization as short-term capital gains. Exceptions are provided for certain real estate trades or businesses and taxpayers with adjusted gross income of less than $400,000.
• Energy security and climate change provisions
  The Act’s climate change provisions are designed to lower energy costs, increase cleaner production and reduce carbon emissions by roughly 40% by the year 2030. These goals would be accomplished with numerous tax credits and targeted qualified loan programs, including qualified plug-in electric vehicles and funding for numerous clean energy programs.
• IRS tax enforcement
  The Act provides an additional $79 billion in funding for the Internal Revenue Service, with the bulk of funds going toward enforcement and operations support. The Congressional Budget Office estimates this provision will bring in an additional $203 billion in tax revenue. None of the additional funding is intended to increase taxes on taxpayers with income under $400,000.

The bill also includes a provision allowing Medicare to negotiate certain prescription drug prices directly and would cap out-of-pocket drug costs for recipients at $2,000 per year. Finally, the Act renews through 2025 Affordable Care Act subsidies currently set to expire at the end of 2022.

Prospects for passage

While Manchin has been the principal obstacle to the Democrats’ ability to pass reconciliation legislation over the past several months, securing his vote is not the only hurdle. All eyes are now on Sen. Kyrsten Sinema (D-Ariz.), who, at the time of this release, has said she is reviewing bill text. Sinema had previously opposed certain tax increases in earlier versions of Build Back Better legislation and it is unclear whether she will vote for the Act as currently drafted. As has been discussed at length, Democrats cannot afford to lose the vote of a single senator among their ranks in order to pass a reconciliation package. Republicans appear to be unified in their opposition to any potential reconciliation package. Schumer stated he intends to bring the bill to the floor for a vote next week.

If the Inflation Reduction Act passes the Senate, it will move to the House, where it could meet potential opposition by the Democratic SALT caucus. This is a small group of representatives who have vowed to vote against any reconciliation measure that fails to address the Tax Cuts and Jobs Act’s limit on the state and local income tax deduction The bill text released by Schumer and Manchin leaves the deduction limitation under current law unchanged. At this time, it is unclear whether this faction is willing to back off their demands to support what appears to be the Democrats’ last opportunity to advance a reconciliation bill ahead of midterm elections. Again, presuming no Republican support, House Speaker Nancy Pelosi (D-Calif.) can only lose four votes in order to pass this legislation.

Semiconductor bill

In early July, Senate Minority Leader Mitch McConnell (R-Ky.) threatened to hold the $280 billion bipartisan United States Innovation and Competition Act of 2021 (CHIPS Act) hostage if the Democrats pursued a reconciliation package. Shortly after this threat, Manchin pulled his support for a reconciliation bill that included anything other than Medicare prescription drug pricing provisions and a two-year extension of certain Affordable Care Act subsidies, citing concerns over June’s 9.1% inflation report.

Mere hours after the Senate voted 64-32 to advance the CHIPS Act, Manchin announced his support for the Inflation Reduction Act, an outline and complete bill text. Republicans are overall displeased with this development and are now likely to whip votes against the CHIPS Act in the House. Again, Democrats can only afford to lose four votes to pass the legislation along party lines. This means the Senate version of the CHIPS bill will need to pass the House, without modification, as any changes are sure to be defeated by McConnell if the bill heads back to the Senate.

Please reach out to your Baker Tilly advisor if you have questions regarding your tax position. We continue to monitor legislative developments and will issue additional alerts as warranted.

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