Something to gain

Entrepreneur, June, 1997 by Stephen Barlas

When senators Thomas Daschle (D-SD) and Wendell Ford (D-KY) introduced separate capital gains tax-cut proposals this year, small-business groups got out the champagne. Entrepreneurs have long sought capital gains and estate tax relief, but support has typically come from Republicans; leading Democrats had been unwilling to deal.

No one is popping corks just yet, but bottles are being chilled. In addition to the legislation introduced by Daschle and Ford, President Clinton has also gotten into the act: His fiscal 1998 revenue proposal includes an expanded capital gains tax cut for people who sell their homes.

Clinton's reform would allow married taxpayers to exclude up to $500,000 of capital gains ($250,000 for a single taxpayer) on the sale of a principal residence, and the exclusion could be used repeatedly. Current law allows a one-time, $125,000 exclusion for those over age 55.

The current top capital gains rates are 35 percent for corporations and 28 percent for individuals. Daschle's proposal doesn't cut the capital gains rate; instead, it expands capital gains tax advantages: For people investing in eligible small-business stock, taxation on capital gains is deferred if the money is reinvested within six months.

Ford's legislation would lower the rate at which capital gains are taxed based on how long the assets have been held. For each year an asset is held, the applicable rate would be reduced by 2 percent. The lowest rate would be 14 percent.

Democrats aren't the only ones on the capital gains tax-cut bandwagon. In January, Senate Republicans, in The American Family Tax Relief Act, proposed slashing individual and corporate rates to 19.8 percent and 28 percent respectively. Individuals would be able to adjust the cost of assets for inflation if they own the assets at least three years.

With both parties interested in the issue, experts believe entrepreneurs may see a compromise over time.

A compromise on estate tax reform is also possible. Current law excludes the first $600,000 of an estate's value from tax. After that, the tax rate starts at 37 percent and reaches 55 percent on estates worth more than $3 million. For portions of estates including certain closely held businesses, taxes can be paid over 14 years; only interest payments must be paid over the first four years. There is a 4 percent interest rate on estate tax owed on the first $1 million of a closely held business; normal IRS interest rates apply to the rest.

The American Family Tax Relief Act would increase the $600,000 exemption to $1 million. The bill would also allow survivors to exclude from estate tax the first $1.5 million of certain family-owned businesses and 50 percent of the value over $1.5 million. The payment period would be extended by 10 years, and the 4 percent interest rate would drop to zero.

In his revenue proposal, Clinton suggests lowering the 4 percent rate to 2 percent and applying it to the first $2.5 million of the closely held business. The tax rate above $2.5 million would be cut to 45 percent of the standard IRS rate.

Many small-business groups also support total repeal of the estate tax. With so many proposals pending, entrepreneurs may have to wait some time for the final outcome.

Stephen Barlas is a freelance business reporter who covers the Washington beat for 15 magazines.