Senate Begins Debate on Tax Cuts

Republicans began to move a scaled-down version of President Bush's tax cut through the Senate on Wednesday, hoping to change it significantly and retain just enough votes to pass the bill, even though it pleases GOP moderates but few others.

The Senate's tax writers, working within a budget that limited tax cuts (search) to $350 billion over the coming decade, had made choices that proved unpopular with both Republicans and Democrats.

They shrunk the centerpiece of President Bush's economic growth plan -- a $400 billion tax cut on dividends paid to stockhold billion in aid to fiscally strapped states.

Conservative Republicans, disappointed in the size and structure of the tax cut, gave the legislation lukewarm support. Republican aides said they are hunting for a few moderate Democrats who might support a more aggressive dividend tax cut.

"I think this is a great first step," said Sen. Wayne Allard, R-Colo.

Lawmakers who oppose a tax increase on Americans working abroad want to strip that provision before debate ends. Democrat John B. Breaux, representing oil and gas workers of Louisiana who will see their taxes increase, will try to eliminate the $35 billion tax increase and pay for the change by adding back some taxes on dividends.

White House spokesman Ari Fleischer said Wednesday the president did not include that tax change in his budget and will consider anything that is "meritorious, what is indeed a loophole closure and not a tax increase."

Members must also decide how to divide a $20 billion package of money for states that GOP conservatives want to eliminate completely. Sen. Rick Santorum, R-Pa., said a "broad majority" of Republicans will back the aid as necessary to advance the tax cut.

Democrats will try to double the spending. Sen. John D. Rockefeller, D-W.Va., said states desperately need help with Medicaid. "This is a moral issue. This is a fiscal issue. This is a survivability issue for the states," he said.

The biggest issue for Republicans is a dividend policy that never reduces the taxes paid by shareholders to zero, as the president proposed. Senate Finance Committee (search) Chairman Charles Grassley, R-Iowa, wrote a tax cut that eliminates taxes on dividends for 86 percent of shareholders by permitting $500 in tax-free dividends. Those with additional dividend income can exclude an extra 10 percent from taxation for five years, then an extra 20 percent for the following five years.

Conservative Republicans want to swap that policy for a more expensive plan that aggressively phases out the tax on dividends and eliminates it completely for at least a year. Taxpayers could exclude 50 percent of their dividend income the first year, 75 percent the second year and 100 percent for at least a year. The tax would then "sunset" or revert to current law, which taxes dividend income like earned income.

"Certainly, getting rid of 50 percent of the double taxation is better than no step forward at all," said John Sununu, R-N.H.

Fleischer did not rule out accepting a temporary elimination of taxes on dividends. "The president is continually pushing for the goal of making these permanent, but given the constraints that we must operate under given the budget resolution, the president will work with what we are working with and make the most progress possible and keep coming at it," he said.

Sen. Don Nickles, R-Okla., said Tuesday he would like the "sunset" on the dividend tax to coincide with a future election. The plan requires that Republicans find $32 billion in revenue for each year that shareholders enjoy tax-free dividends.

The bulk of the bill accelerates planned reductions in income tax rates, cuts taxes for married couples and increases the child tax credit to $1,000 from $600. Small businesses could write off up to $75,000 of their equipment investments.