Republicans decline to compromise on tax cuts

Reporting from Washington —  Republican leaders in Congress on Monday backed away from a possible compromise with the Obama administration over expiring George W. Bush-era tax cuts, committing both sides to an election-year battle with significant stakes for the economy.

Senate Minority Leader Mitch McConnell (R-Ky.) and the party’s conservative activists distanced themselves from comments by House Minority Leader John A. Boehner (R- Ohio) on Sunday that he may agree to let tax relief for wealthy Americans expire if that was politically necessary to save middle-class tax cuts.

By late Monday, Boehner issued a statement dropping his suggestion and saying he too would fight higher taxes affecting any bracket.

President Obama is pushing for a permanent middle-class tax cut, but only if Bush-era cuts for top earners are eliminated. Republicans want permanent tax relief for all income levels.

The divide is rapidly becoming the marquee issue of the midterm election.

Democrats are using it to portray themselves as champions of the middle class and as deficit hawks because they say GOP proposals would depress government revenue.

Republicans say Democrats are prepared to increase taxes on small-business owners and couples making more than $250,000 a year during a recession, which they say will hamper an economic recovery.

The cuts, which were passed in the first term of the Bush presidency, expire at the end of the year. Economists generally agree that the country faces a strong possibility of a renewed recession should lawmakers let all of the cuts die.

Given the lackluster recovery — with crucial housing and job markets still ailing — an expiration of tax cuts worth about $300 billion a year would be a huge hit to the economy, equivalent to 2% of the nation’s total output. The potential economic fallout is far less clear if tax rates rose only for high earners.

The chances are small that Congress will address the issue before the November election. But there are ample opportunities for both parties to use their economic messages during the campaign.

Republicans, particularly in the Senate, are gambling that Democrats will be unable to muster enough votes to pass a package that includes only the middle-class cut — and will have to offer relief to all tax brackets to get any legislation through.

That possibility was bolstered Monday when Sen. Joe Lieberman (I-Conn.) said he would push to extend the Bush-era cuts for all taxpayers for at least one more year.

Other moderate Democrats in both the House and Senate are nervous about leaving themselves open to the charge that they raised taxes during a recession. Those Democrats may consider a short-term extension of all the cuts.

Republicans will seek to exploit Democratic anxiety by proposing bills to freeze the current tax rates.

As Congress returned from a five-week recess Monday, McConnell proposed legislation to make the Bush-era cuts permanent, saying that Democrats have enlarged government over the last two years and “now they want the tax hike to pay for it all.”

“There is ample evidence that a bipartisan majority of the House would support a clean bill to ensure that no American faces a tax increase in this difficult economic environment,” House Minority Whip Eric Cantor (R-Va.) said Monday.

But Democrats have a card to play as well. Should Congress fail to act, the reductions will expire for everyone, opening Republicans up to charges that they killed a tax cut because it didn’t benefit the wealthiest Americans.

Obama on Monday told a small crowd in Fairfax, Va., that a permanent middle-class cut could pass Congress now — except that “we’re still in this wrestling match with John Boehner and [Senate Minority Leader] Mitch McConnell about the last 2 to 3%” of taxpayers.

Obama administration officials insist that letting the tax cut expire for wealthy earners won’t hurt job creation. In fact, they said, it would be good for jobs and the economy in the medium term and long term because it would bring down the deficit.

That “far outweighs any other effect the expiration of tax cuts [for the wealthy] would have,” said Jason Furman, deputy director of the National Economic Council.

But some analysts say the statistics aren’t clear on how much the tax increase would hurt small employers. Proponents of extending the tax cuts for the wealthy worry about the psychological effect in the near term, and the potential for damage later if Congress allows taxes on such investment incentives as dividends to rise to as high as nearly 40% from the current 15%. Obama has proposed that the rate rise to 20%.

“With cash sloshing around the system, and significant pent-up demand for equipment investment, you may want to keep ‘animal spirits’ alive, at least until the recovery is in full bloom,” said G.U. Krueger, an economist and president of HousingEcon.com in Los Angeles.

joliphant@latimes.com

don.lee@latimes.com