When the Reagan administration first began developing the shape of its "clean" tax bill, there was an intense, internal debate on whether to lower the 70 percent maximum tax rate on unearned income, such as dividends and interest.
On one side were purist advocates of the then-Kemp-Roth bill, who argued that lowering the maximum rate was an essential ingredient in shifting money, held largely by the wealthy, out of non-productive tax shelters and into productive investments based on calculations of market forces.
On the other side were political strategists who contended that it would result in charges that the Reagan tax plan was excessively beneficial to the rich, because lowering the maximum tax also would lower the top capital gains rate from 28 percent to 20 percent. The maximum rates affect persons with taxable incomes of more than $60,000 a year on joint returns, and rate reductions become most important for those with incomes now at the 70 percent rate, $215,400 for a couple.
In the early negotiations, the political strategists at the White House won, and the drive to lower the maximum rates was dropped. But then the bidding war for votes in Congress began, and on both the Republican and Democratic sides of the aisle, there are proposals to alter the tax system significantly in the upper brackets.
The revised version of the GOP House bill has the following provisions:
The top rate would be reduced from 70 percent to 50 percent on Jan. 1, 1982. However, the Republican bill, called Conable-Hance after its two sponsors, Reps. Barber B. Conable Jr. (R-N.Y.), and Kent Hance (D-Texas), would lower the top capital gains rate retroactively to 20 percent from 28 percent starting for sales made after June 9, 1981.
In addition, the Conable-Hance bill would reduce from one year to six months the period for holding assets to qualify them for the lower capital gains rate of taxation instead of regular income tax rates. The shortened time period would start on the first of the coming year.
According to Treasury Department estimates, these changes would result in lost revenues of $1.3 billion in 1982 and would stay in that range every year through 1986.
For persons over the age of 55 who sell their homes, the current $100,000 exclusion from capital gains taxation liability would be increased to $125,000, effective for sales after July 20, 1981.
In addition, all taxpayers currently are allowed to defer tax liability on the sale of homes if the money is reinvested in a new home within 18 months. Under the bill, this time period would be extended to two years, reflecting, in part, the sluggishness of the housing market. This provision would become effective on July 20, 1981, and would apply retroactively to sales made up to 17 months and 29 days before that date.
The cost of the changes in law governing home sales would be negligible in 1982 and are estimated at $100 million a year in subsequent years.
In the negotiating for votes, the Democrats were first in initiating the changes in home sale provisions, and their proposals were adopted without change by the Republicans when they put together the Conable-Hance bill.
The Democratic bill does not, however, include the shortened term for the capital gains holding period down to six months.
The Ways and Means Committee bill does not include any retroactive capital gains tax cut, but instead phases down both the maximum unearned income tax rate -- and thus the capital gains rate, which is tied to do it -- over a two-year period.
Starting on Jan. 1, 1982, the maximum income tax rate would be lowered to 60 percent, and consequently the top capital gains rate would drop to 24 percent. At the start of 1983, the maximum rate on unearned income would fall to 50 percent, and with it the top rate on capital gains would drop to 20 percent.