Terrific: Senate Dems offset cost of student loan bill with higher taxes on small business

Let the games begin. With Romney expressing his support earlier this week for extending the freeze in student loan interest rates, defusing this as a wedge issue just as the President was embarking on his college tour, Democrats in the Senate have decided to counter with, what else, the class warfare card. Via Bloomberg (emphasis added):

Senate Democrats and the White House are seeking a one-year freeze in the interest rate. The $6 billion cost would be offset by limiting a tax provision that allows some owners of so-called S-corporations to avoid paying Medicare payroll taxes on their earnings, Senator Tom Harkin, an Iowa Democrat, told reporters yesterday.

Harkin said the legislation would require the Medicare payroll tax on income of more than $250,000 a year earned at S-corporations with fewer than three shareholders.

“This is a loophole that needs to be closed anyway,” he said. “So this is the right time to do it and for the right cause.”

Current law exempts the profits earned by S-corporations from Social Security and Medicare taxes, taxing only the salaries earned by shareholders who are employed by these firms. The IRS requires the allocation of reasonable compensation for work performed, so closely held S-corporations cannot (legally) classify all of their net income as profits, thus bypassing these payroll taxes. To call it a “loophole” is disingenuous. It’s no more a loophole than hundreds of other avenues through which businesses and individuals can cheat on their taxes, if they are willing to subject themselves to the consequences of breaking the law.

Millions of small, family owned businesses around the country are classified as S-corporations, and would be caught up in this tax net for no reason other than that they are small, and successful. And keep in mind that the profits which are credited to shareholders of S-corporations often remain in the business, funding the salaries of new employees and other investments.

The worst of it is that this a new, permanent tax on small businesses – $9 billion over 10 years according to the CBO –  to fund the cost of just one year of the interest rate freeze ($6 billion). If this is the “right cause” then the cause isn’t long-term financial relief for college students, it’s the re-election prospects of Democrats in November.

Backing this bill would be a dangerous precedent to set ahead of the real class warfare battle to come this summer, and thus Republicans in Congress, as well as the Romney campaign, should withhold their support unless another means is found to pay for it.