Concerns from rank-and-file Republicans about small-business provisions in the House GOP tax bill are emerging as the biggest threats to the legislation’s passage in the chamber.

The specific concerns vary from the types of small businesses that will benefit from a reduced 25 percent tax rate to the amount of so-called pass-through income that will still be taxed at individual rates.

It’s a trouble spot that GOP leaders and tax writers need to work through if they want to shore up votes for the bill, which they hope to bring to the floor next week. Republicans can lose no more than 22 votes (assuming full attendance) if they are to pass a bill without Democratic support. 

Lawmakers covering a broad spectrum of the House GOP conference, including the hard-line Freedom Caucus members, the Republican Study Committee conservatives and the Tuesday Group moderates, are pushing for changes to the small-business provisions before the bill reaches the floor.

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“That’s probably number one, the whole pass-through on the small businesses,” RSC Chairman Mark Walker said Monday evening.

It’s not just members who are objecting. Small-business groups, such as the National Federation of Independent Business, are opposed to the bill.

Under current law, small businesses organized as sole proprietorships, partnerships, limited liability companies, and S-corporations, known as pass-through entities, are taxed at the individual owner or shareholder level.

That means these owners are paying taxes on their business income at tax rates, which top out at 39.6 percent.

The GOP bill would create a 25 percent small-business tax rate that would apply to all passive investment income, such as interest, and to a portion of active income, including profits and salaries. The active income portion comes with limitations that tax writers have described as “guardrails” to prevent abuse of the reduced rate.

Owners and shareholders of pass-through entities have two options for calculating their tax rates for active income. One is to have 30 percent of such income taxed at the reduced rate while the remaining 70 percent would be subject to individual income tax rates.

The alternative is to apply a formula based on their level of capital investments that could result in a higher percentage of income being taxed at the 25 percent rate. The catch for those choosing the formula method is that they are bound to it for five years.

Varied concerns

Many members have said the formula favors capital-intensive businesses, such as manufacturers, and leaves service providers, including doctors, lawyers, accountants, architects and plumbers, with a higher tax bill since they do not qualify for the 30/70 taxation method. The National Federation of Independent Business agrees that the guardrail is poorly designed.

“They went about it the wrong way; they’ve excluded lots and lots of legitimate small businesses,” NFIB spokesman Jack Mozloom said in an interview, adding that those excluded were basically “anybody whose skill is their business.”

The NFIB’s other concern is that the 25 percent rate is too high to reduce taxes for the majority of small-business owners. Mozloom said 85 percent to 90 percent of his group’s roughly 300,000 members would not get a tax cut because they don’t make more than $260,000 in taxable income.

That’s the threshold at which the bill’s 35 percent individual tax rate kicks in. People making less than that amount wouldn’t pay more than 25 percent in taxes anyway.

“That’s the vast majority of the small-business community,” Mozloom said. “That is not a true small-business tax rate.”

The NFIB is asking tax writers to consider graduating the small-business rate up to 25 percent, with a bracket or two under that.

Ways and Means Chairman Kevin Brady reiterated Wednesday that no decisions have been made yet but they’re working on small-business improvements.

“We’ve been working closely with NFIB and other small business groups in that area,” the Texas Republican said. “So I’m just optimistic we’ll continue to provide more relief.”

Members, however, seem less fixated on the pass-through rate than the overall result.

“I want to make sure that when deductions are removed and tax rates are lowered, that when you compare that, people are still getting the cuts,” said Freedom Caucus member Jody Hice of Georgia, referring to small-businesses owners and other individual taxpayers. “And I’m still trying to wrap my mind around how do you come to those absolute conclusions. But that’s kind of the biggest deal for me right now.”

Freedom Caucus Chairman Mark Meadows said he’s run numbers for some of the small businesses in his district based on the provisions in the bill.

“They are not necessarily better off,” the North Carolina Republican said.

While at home in South Carolina last week, Freedom Caucus member Mark Sanford said most of the feedback he got on the tax bill was from small businesses.

He described the “stumbling block” as this: A passive investor would benefit from the full 25 percent rate while the business owner who’s doing most of the work could be taxed at 39.6 percent.

The Freedom Caucus members discussed the need to improve the small-business language during their weekly meeting Monday and identified repeal of the individual mandate as a possible offset for any pass-through changes.

‘To be determined’

Most members interviewed for this story said leadership is listening to their concerns and they’re optimistic the language will be tweaked, with several predicting changes will be made during the House Ways and Means Committee markup this week.

“That’s probably what’s got the most energy right now, and I think they’ll make some adjustments,” Walker said.

Brady would not commit to that, however. And he declined to characterize members’ views on the small-business provisions as concerns but rather “questions about ‘Are we hitting our Main Street businesses?’ and ‘Is there more we can do?’”

Tuesday Group Co-chairman Charlie Dent also acknowledged the energy behind making changes to the pass-through provisions.

But the retiring Pennsylvania Republican has a different concern. He wants to ensure the guardrails in place are tight enough that high-income individuals can’t form an LLC, for example, and try to claim the reduced rate.

“It’s a very serious policy consideration that has to be addressed, regardless of the politics,” Dent said. “It’s got to be fixed.”

New York Rep. Chris Collins, a Tuesday Group member, said most of the members don’t understand the pass-through provisions so any changes are not necessarily designed to get them on board.

“I’ll be quite blunt,” he said. “I think it’s leadership negotiating with NFIB.”

House Chief Deputy Whip Patrick T. McHenry acknowledged that leadership is trying to address complaints about the small-business provisions, but he stopped short of guaranteeing changes.

“We’re trying to make sure the policy is right and actually delivers [the] impact we want it to deliver,” the North Carolina Republican said.

“I’m not concerned about any one provision,” McHenry added. “I think we’ve got a very good package and we’ll be able to pass it next week.”