Obama Tax Plan: How it Will Impact Small Business and You

The Obama tax plan will have anywhere from a minor to significant impact on small business. It all depends on the nature of the business itself, and the president’s negotiations with Congress.

But, first, take a moment to acknowledge the sage, sanguine advice of my personal accountant who reminds me that my goal must always be to pay more taxes, because it still means that I have more left over!

The president’s tax plan is about more than just raising tax rates. It, includes some short term sugary stimulus credits as well as some serious future challenges, especially to family owned businesses. 

The president has argued that his plan will have no impact 97% of small businesses — those with net taxable earnings of less than $250,000. That is mostly true. These are the “S Corp” filers who pay taxes at the individual income rate. The top rate of 28% on their net taxable income will remain at 28%. But payroll taxes are likely to revert to 15.3% — a tax increase of 2% on the first $110,000 in income — about $2000 in 2013.

For businesses with a taxable income over $250,000, the picture is far less clear but not ominous, either. It all depends on the method that the president and congressional leaders use to calculate the higher tax rate. Let’s say the rate rose to 31% on businesses with a net income of $300,000. Typically, that higher rate would apply only on the last $50,000 of income resulting in a manageable additional tax of only about $1,500.   

The president’s plan, also, offers some continued small business stimulus. Mostly tax credits for hiring and faster depreciation of capital equipment for one year. In the past two years, these credits have been less than successful because they defy the basic laws of business. First, businesses do not invest unless they have demand that exceeds capacity. Second, there must be reasonable degree of certainty that the increased demand can be sustained.

Since 2009, there has been too little demand and less certainty. While the former is improving; the future costs of and availability of investment capital, and the impact of “Obamacare” premiums and penalties remain an obstacle to small (and large) business expansion.

Many small businesses are family businesses. Parents build them by reinvesting earned capital (profit after all taxes) expecting to pass them on to the next generation. The president’s plan includes very significant increases in estate taxes that threaten the future of these businesses in a far more fundamental way than any annual income tax increase!  

It is not uncommon for farmers to report net annual income of $250,000 on a 2,000 acre farm. If the farmland were appraised, conservatively, at $3,000 an acre, the inheritance taxes would start at around $2.5 million rather than $350,000 under existing law. 

A small manufacturing firm, like the toy firm the president will visit this Friday in Pennsylvania, may generate less than $250,000 in net income (before taxes) on an asset base (equipment, building, etc.) of +/-$2 million.  If the president prevails on estate tax increases, the heirs of this toy factory would be faced with a $350,000 tax bill. Under current law, there would be no estate taxes.

In either of these scenarios, under the Obama tax plan: the heirs face stark choices. They must either mortgage/borrow large sums of money or sell some or all of their assets. The net effect is to weaken or destroy the underlying business. 

Small business can manage the immediate impact of the Obama tax plan without a significant dip in GDP. But the substitution of tax politics for tax policy will create future challenges to small business success and employment.