Income tax withholding likely to be delayed after Jan. 1 to give Congress more time to act
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WASHINGTON — Political leaders are beginning to review scenarios for surviving the fiscal cliff in the short term, as the likelihood builds that no budget deal will be reached over the next four days.
“I don’t know, time-wise, how it can happen now,’’ Senate majority leader Harry Reid, the Senate’s top Democrat, said Thursday of the elusive budget deal that could stop automatic tax hikes and spending cuts Jan. 1.
With diminishing hopes of meeting the deadline, President Obama’s Department of Treasury has bought the White House and Congress a political grace period: The Internal Revenue Service, a division of the treasury, has effectively delayed the economic impact of the automatic income tax hikes, which could give negotiators breathing room to keep trying for a deal beyond next week.
While income tax rate increases technically take effect immediately on Jan. 1, the IRS has not yet told employers to change the amount of income taxes they withhold from employee paychecks. As a result, most American workers are not expected to immediately suffer an increase in income taxes, even if political leaders fail to reach a deal.
The reprieve could last days or even weeks and would help insulate the economy, at least briefly, from Washington’s dysfunction.
“They are not telling employers to change anything with regard to withholding. They are telling employers to use the same withholding tables that you used for 2012,’’ said Lawrence A. Zelenak, a law professor and tax specialist at Duke University. “This is the kind of situation that the IRS has run into before, on smaller-scale issues, where they have strong political signals that there is going to be a change retroactively.’’
The risks of the cliff are great, to be sure. Another recession is likely in 2013, economists warn, if a gridlocked Congress still is unable to mitigate the negative economic impact.
Pushing back the deadline for withholding is a delicate matter for the IRS and the Treasury, which is gambling that Congress will succumb to intensifying political pressure after the Jan. 1 threshold is crossed and vote in January to keep tax rates at the same George W. Bush-era level for the vast majority of Americans.
An IRS spokeswoman requested written questions from the Globe. After receiving them, she declined to comment.
“Your questions are ‘if-then’ questions that are dependent on facts and circumstances that are not currently available. Any information I provided would be purely speculative,’’ said the spokeswoman, Peggy Riley.
Even if the IRS issues new withholding tables Friday or next week, there still would be a delay before employees see the effects of higher taxes in their paychecks, said Thomas E. Savino, a Massachusetts accountant whose business clients are watching events in Washington.
“It still takes time for employers or payroll service companies to change their computer software programs, and that could take several weeks for that implementation for take place,’’ he said. “People have to be very careful for the next few weeks. They will see their federal tax withholdings to be about the same for 2012, because employers do not have any guidance on what it should be for the new year.’’
The economic and political risks of going over the cliff — letting automatic tax hikes and spending cuts kick in — are still large.
With no impact on employee paychecks immediately, the earliest effects of a cliff dive likely would be a decline in consumer and business confidence, rising uncertainty, and Wall Street jitters. The government would soon begin cutting budgets, and some estimates have said hundreds of thousands of jobs could be shed by government agencies and contractors.
President Obama’s latest request to avert the automatic tax hikes and spending cuts has been to develop a small-scale plan to extend tax cuts for the 98 percent of taxpayers earning $250,000 or less, coupled with an extension of unemployment benefits. Obama has summoned congressional leaders to the White House for a meeting Friday to discuss the possibility of moving forward.
Outside of income taxes, there are a variety of other tax and spending issues that may or may not be part of any deal.
A temporary reduction in the Social Security payroll tax is scheduled to expire, meaning the rate will return to 6.2 percent, back from the 4.2 percent rate of the last two years. That will cost the average family about $20 a week.
Congress also is under pressure to apply a “patch’’ to the alternative minimum tax, an annual event that limits the tax so it applies to only about 4 million taxpayers.
Without the patch, as many as 30 million people could be subject to the alternative minimum tax, including individuals with incomes as low as $33,750. Despite the lack of action by Congress, the IRS recently told the House Ways and Means Committee that its computers were still set up as if the alternative minimum tax patch’ will be applied for 2012.
Congress still has more time to modify scheduled increases in estate taxes, long-term capital gains, and taxes on dividends — because those tax bills will not be tallied until 2014. Still, a lack of clarity early in 2013 affects decision-making for taxpayers subject to those levies, and the uncertainty can be corrosive.
A tangentially related tax increase is scheduled for Jan. 1: a 0.9 percent increase in Medicare payroll taxes for people who earn more than $200,000 a year. That increase was part of President Obama’s 2010 healthcare overhaul; it is not part of fiscal cliff talks.
The “fiscal cliff’’ — which many economists say is a misnomer, preferring instead ``fiscal slope’’ — applies to $500 billion in combined income tax rate increases and “sequester’’ spending cuts that are scheduled to take their bite on Jan. 1.
Democrats hope Republicans will feel so much political pressure after Jan. 1 arrives that they will vote to reduce taxes on 98 percent or so of Americans and drop their insistence on lowering taxes for all taxpayers, including the wealthy.
Last week, citing lack of Republican support, Speaker John Boehner failed to bring to the House floor a bill that would have kept the lower rates for everyone except people earning more than $1 million a year.
That test demonstrated the determination of conservative House Republicans to oppose anything that would result in higher taxes for the wealthy.
Another complication in the New Year is the requirement to pass another increase in the nation’s debt ceiling, a pressure point that Republicans say they intend to use to extract more fiscal concessions from Democrats. Whether that would muddy the atmosphere on income taxes immediately after the fiscal cliff is crossed remains unclear.
Senators began trickling back into the Capitol on Thursday, but House members remained in their home districts. Leaders on all sides said they were waiting for someone else to float a new proposal.
Reid, speaking in a mostly empty Capitol, railed against Boehner for refusing to bring to the House floor a bill passed by the Senate last summer that would extend tax cuts for all families making $250,000 or less.
The Nevada Democrat said he does not expect the House to negotiate until after the new Congress is sworn in and leadership elections to be completed, late next week.
“John Boehner seems to care more about keeping his speakership than keeping the nation on firm financial footing,’’ Reid declared. “He is waiting to January 3d to get re-elected as speaker before he gets serious with negotiations.’’
In response, Michael Steel, a spokesman for the Ohio Republican, said, “Senator Reid should talk less and legislate more. The House has already passed legislation to avoid the entire fiscal cliff. Senate Democrats have not.”Christopher Rowland can be reached at email@example.com.