Cliff Jumping

Election 2012 is over. It could be weeks until you hear anyone “approve this message” again. That’s the good news.

The ominous news is that the fiscal cliff is dead ahead. Both the short- and long-term fates of the economy may be altered by what Congress does in the coming months.

“Fiscal cliff” was first coined by Federal Reserve Chairman Ben Bernanke. It refers to the combination of automatic tax increases and spending reductions that will occur on or around Jan. 2, 2013, if Congress does nothing.

Congress must address the Bush tax cuts, sequestration and the debt ceiling (among other things) to keep America from metaphorically falling off the cliff. Failing to solve that perfect storm of converging issues may increase unemployment, decrease take-home pay, and plunge an already wobbly economy back into an official recession.

The fiscal cliff is composed of five elements:

1 & 2 – Sequestration and spending caps - As a result of the August 2011 deal to raise the federal debt ceiling, Congress passed the Budget Control Act. That measure set federal spending caps and established a “sequestration” mechanism to reduce the deficit over the next decade.

The caps have been in effect for about a year, but sequestration – the across-the-board reduction of $1.2 trillion in government outlays over the next 10 years – doesn’t start until the new year.

Sequestration would automatically eliminate $54.7 billion from defense and $54.7 billion from non-defense programs in 2013. Thousands of federal contract positions may be eliminated as a result of the cuts, and HR professionals across the country are already bracing for these reductions.

3 – Expiration of Bush tax cuts - At present, the $180-billion Bush tax cuts will end on Jan 1, 2013. If Congress fails to extend or reach a deal on taxes before year’s end, it will mean all of our wallets will be a few thousand dollars lighter.

According to the Washington, D.C.-based Tax Foundation, individual taxpayers could pay anywhere from $1,310 (Mississippi residents) to $5,783 (Connecticut residents) in additional taxes per year if the income, dividend, and capital gains rates revert to the Clinton-era levels. President Obama has proposed letting the Bush income tax cuts expire for married taxpayers making over $250,000, and single taxpayers making over $200,000. Republicans seek to extend all the Bush tax cuts.

SHRM is advocating for the extension of the Section 127 employer-provided education assistance credit, which is slated to expire. Section 127 of the Internal Revenue Code allows an employee to exclude from income up to $5,250 per year in educational assistance at the undergraduate and graduate level. SHRM is the co-chair of the Coalition to Preserve Employer Provided Educational Assistance (For more info, go to www.cpepea.com).

4 – Payroll tax cut – In 2011, President Obama and Congress enacted a FICA payroll tax rate reduction, from 6.2 to 4.2 percent, for all workers on their first $110,000 of income. This tax break expires on Jan. 1, 2013. Due to deficit and spending concerns, many officials and commentators say that Congress is unlikely to extend the payroll tax cut. However, in the days leading up to the election, some politicians called for the tax break to continue because it returns money to workers who are most likely to spend it and stimulate the economy.

5 – Debt limit increase – The Treasury Department sets the statutory ceiling on how much debt the federal government can accrue. At print, that debt was at $16.04 trillion and change, coming up against the current statutory limit of $16.394 trillion. Thus, Congress will need to raise the limit come January or February, or else the government will have to default on some financial obligations.

Many would say the debt ceiling is not a part of the fiscal cliff, but it’s become intertwined. The debt ceiling fight that ultimately yielded the Budget Control Act in August 2011 nearly caused a government shutdown. An impasse is not out of the question again because both parties typically leverage the debt ceiling debate to blame the other side for its fiscal policies.

Not-so-Lame Duck?

The “lame duck” session of Congress will begin on Tuesday, Nov. 13, and continue until the new 113^thCongress is sworn in on Jan. 3. Due to the looming fiscal cliff issues, this could be the most exciting lame duck session of Congress in years.

In the lame duck, there are really four possible scenarios. Congress and the White House will either: do nothing, do something small, do something big, or put off everything.

Do nothing – It is possible, however unlikely, that both parties will be so entrenched in their positions following a close election that Congress and the White House fail to reach even a temporary agreement. After all, both President Obama and House Republicans won their respective elections, and both have long differed on extending the Bush tax cuts for higher-income households.

In this case, doing nothing is akin to failure.  America would plunge off the fiscal cliff. If that happens, $500 billion will be taken out of the economy in 2013 alone.

Do something small – Congress and the White House may reach compromises on some tax and spending issues. Today Speaker Boehner extended a post-election olive branch from House Republicans in calling on the president "to make good on a balanced approach" that would include spending cuts and address government entitlement programs.

In addition, both parties are particularly eager to stop sequestration. President Obama stated at the Oct. 22 presidential debate that massive military spending cuts due to occur in the new year through sequestration "will not happen." His categorical statement caught stakeholders on all sides of the sequestration issue a bit by surprise, but both parties may try to find new revenues and additional cuts to stop sequestration job losses. The new Congress would be left to hammer out a compromise, and congressional Republicans may leverage the debt ceiling debate in January.

Do something big – President Obama is likely to propose a tax reform bill for the lame duck session. If there is a “grand bargain,” it is likely that Democrats will compromise on the upper-income limit for extending the Bush tax cuts. House Speaker John Boehner said on election night that "the American people have also made clear that there is no mandate for raising tax rates." It is possible that Congress may consider a bill that would include $2.50 in spending cuts for every $1 in revenue increase.   

Put off everything – Perhaps the most likely scenario is still that Congress will “punt” all fiscal cliff issues into 2013. There is only a handful of legislative days in the lame duck session, and both Democrats and Republicans may quickly agree to push these weighty debates to the new year. Fiscal cliff issues will get rolled into tax reform, immigration reform and other major debates that are likely in 2013. President Obama has said he'll do whatever it takes to work with Congress to get a bipartisan deficit and debt reduction deal done. "I’ll wash John Boehner’s car. I’ll walk Mitch McConnell’s dog," Obama said on Oct. 26.

If the government does nothing and the spending cuts and tax increases take effect, the economy will be leveled with a half-trillion-dollar short-term hit to the U.S. economy. However, falling over the fiscal cliff would lead to the biggest single-year drop in the annual deficit as a percentage of the economy since 1969. Long-term, that would be positive for the economy. But could we weather the short-term cost?

Keep an eye on Congress the next eight weeks, with its potential impact on jobs and the economy. And brace yourselves because we may be cliff jumping together, whether or not you approve this message.