Is the Dividend Tax Cut Doomed?

There's no consensus on what the final resolution will look like. A compromise -- somewhere between $350 billion and $726 billion allowed for tax cuts -- seems intuitive, but may not be the case.

"We're in a very unusual situation," Samuels says. "The president just told Congress that he needed another $75 billion for the war, and that's just the beginning. The costs of the war and of rebuilding Iraq will affect the amount of the tax cut."

In other words, if the war costs keep looming, it's possible that the final resolution would be even lower than $350 billion.

"We're in a very volatile time," says Martin Nissenbaum, National Director of Personal Income Tax Planning for Ernst & Young. "If the Senate holds firm, the House could buckle."

And the war serves as a psychological argument against tax cuts, as well as a fiscal one. "Frankly, it looks really callous to say a tax cut that benefits the richest Americans is a 'growth package' that we should consider as a priority," says Gary Bass of OMB Watch, a nonprofit Washington, D.C. firm that tracks the work of the Administration's Office of Management and Budget.

"I do think the dividend tax cut is pretty well shot, but that makes that $350 billion allotment a free-for-all," Bass adds. "The Democrats will push for targeted tax cuts, like increasing the child tax credit, education breaks or a solution to the marriage penalty, but who knows what the Republicans will do."

One element of the Republican plan will likely include some finessing of the dividend tax exemption. But that's an expensive proposition, no matter how you slice it.

Republicans have also made a push to accelerate the repeal of the estate tax. Under current law, the estate tax disappears in 2010, but reappears in 2011, when President Bush's 2001 tax law expires. The plan to accelerate the repeal by one year (so the estate tax would disappear in 2009) costs $46 billion. That's more than 13% of $350 billion, for one extra year of a tax break that will benefit the richest 1% of the country. "The Republicans made a strategic blunder by asking for that now,' Bass says. "They'll have to think about how important one additional year free of the estate tax is when it takes up such a large portion of what they have to work with. Plus, it has nothing to do with growth."

Nissenbaum agrees it's virtually settled that the tax on dividend distributions will not be included in the final proposal. Rather, it will likely include a partial exclusion, or perhaps a plan to treat dividends as long-term capital gains.

But this is not solely a debate over the administration's highly controversial plan to eliminate the tax on dividends. "It's more a battle over the deficit," Nissenbaum says. "Should we continue to increase a growing deficit? How do we find room in the budget for these tax cuts while we pay for a war?"

All good questions that will play a major role in the deliberations that will likely continue through spring. "It's hard to predict, since there's no historical comparison," Samuels says. "It could go either way."

Most peculiar, mama.

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