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Senators duke it out over capital gains inflation in letters to Treasury Department

Bullish stock market

Members of the Upper Chamber of Congress are relying on the power of the pen in their battle to obtain or stop the proposed indexing of capital gains to inflation.

Republicans and now Democrats have written letters to the Treasury Department making their opposing cases for the broadening of this tax break.

A year's wait: Last summer, the Trump Administration began exploring its options when it comes to indexing capital gains.

Currently, capital gains on long-term assets are taxed at generally lower rates. The top 20 percent capital gains tax rate is particularly appealing to wealthy investors, who face a top 37 percent ordinary tax rate under the Tax Cuts and Jobs Act (TCJA).

See Also: Capital gains taxes under the new law

Lower-earning investors also can benefit. For those on the lowest end of the tax scale, they face no capital gains taxes, as in 0 percent, on long-term asset sales. Moving up the pay scale and tax brackets a bit, the top capital gains tax rate maxes out at 15 percent.

Election stall GOP legislative plan: Republicans had hoped to push through capital gains indexing, which would adjust the profit made on long-term asset sales to the cost of living, in a subsequent TCJA bill, dubbed Tax Reform 2.0.

Then the Grand Old Party lost control of the House in the 2018 midterms and any additional tax legislation has stalled under partisan Congressional gridlock.

See Also: Trump's tax returns, plus future candidates' filings,
are first target of House Democrats

Treasury Secretary Steve Mnuchin originally had said he and the Trump White House would prefer Congress take the lead on indexing capital gains. But with no tax legislation, at least not any likely to pass, on the horizon, Treasury is again revisiting whether to act unilaterally when it comes to this tax break.

Now that it looks like Congress will be sidestepped on the matter, some Senators have taken to arguing their points, pro and con, via correspondence.

What would change: With indexing, investors' profit would be less, meaning the already lower capital gains tax rate would apply to a smaller amount and produce an even smaller tax bill.

See Also: Capital gains indexing would mean
more tax savings for long-term investors

Supporters of capital gains indexing, like the conservative, tax-cut advocating nonprofit Americans for Tax Reform argue that inflation comprises a significant portion of capital gains. As an example, the Grover Norquist led group notes:

"For instance, a taxpayer that purchases one share of Coca-Cola stock in 1998 would have paid $32.38 per share. Today, that share would be worth $48.13 with a gain of $15.76 and a tax liability of $3.75.

However, because of inflation, the value of a dollar in 1998 is worth $1.56. The inflation adjusted value of the stock is therefore $50.50 and the taxpayer has an inflation adjusted loss of $2.38."

Do it: Proponents of capital gains indexing and Treasury's power to make the change put pen to paper first.

The July 29 letter to Mnuchin from 21 Senate Republicans urged him to index the tax on gains realized from sales of real estate, stocks or bonds, echoing the economic benefit argument.

The current capital gains tax system "treatment punishes taxpayers for the mere existence of inflation and is inherently unfair," according the GOP letter writers, "Other tax provisions such as individual tax brackets are rightly adjusted for inflation annually. Capital gains ought to receive the same treatment."

See Also: TCJA produced little economic benefit in first year

In addition, say the inflation adjustment advocates, the move "would have significant economic benefits," including growing the economy thanks to more capital that would be available for investment.

Don't do it: On the other side, Congressional Democrats argue that indexing capital gains would be just another GOP sop to the rich.

"This unilateral move would almost exclusively benefit the wealthiest Americans, add to the ballooning federal deficit, further complicate the tax code, and ignore longstanding Justice Department policy," said the 42 Democrats, led by Senate Finance Committee Ranking Member Ron Wyden of Oregon, in their Aug. 7 letter to Mnuchin.

See Also: Warren Buffett's 'tax the rich' stance

In contract to their GOP counterparts, the Senate Democrats argue that "the proposal would do little to nothing to boost the economy as it would provide a windfall for existing capital assets rather than incentivize new investment."

They point to an analysis from the Penn-Wharton Budget Model that found that indexing capital gains would cost about $100 billion over a decade and predominantly benefit those in the top 1 percent of income.

In addition to the Senate Democrats, the Rep. Richard Neal (D-Massachusetts), chair of the House Ways and Means Committee, issued his own statement on the heels of the GOP letter expressing his strong opposition to any potential executive action to index capital gains to inflation.

Can or can't Treasury do it? In addition to the yea or nay over indexing capital gains, there's also the issue of whether Treasury can make the change via regulation.

The U.S. Constitution gives the power of the purse solely to Congress. Specifically, all tax legislation must originate in the House Ways and Means Committee.

That's led previous administrations to determine that Treasury cannot make such a change on its own. Notably, a 1992 Justice Department memo concluded that capital gains couldn't be indexed by regulation.

See Also: Treasury cites 8 burdensome tax regs that might be axed

Others, however, say that's not a problem. They contend that a variety of legal analyses going back several decades support the Treasury Department's authority to redefine the calculation of capital gains taxes by excluding inflation from tax owed.

Mnuchin reportedly is hesitant to act unilaterally, preferring Congress take the lead. But he's getting pressure from his boss at the White House, as well as from other Trump Administration personnel.

Tax action, legal reaction: Will the dueling letters have an effect?

As has been the case for a year now, we'll just have to keep waiting to see.

And as has been the case with the Trump White House, if Mnuchin does decide to act, get ready for law suits to follow.

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