Senate Democrats seek to alter tax bill

WASHINGTON (Reuters) - Senate Democrats on Wednesday worked to trim the cost of a bill to extend jobless benefits and popular business tax breaks after it failed a test vote by a wide margin because of budget deficit concerns.

The bill, which would have increased the deficit by about $80 billion over 10 years, also calls for raising taxes on investment fund managers to help offset some of its costs.

It fell far short of the 60 votes needed in the 100-member chamber to survive a Republican challenge that it violated budget rules against deepening the federal deficit.

Eleven Democrats joined 40 Republicans and one independent to stop the bill. The bill garnered only 45 votes in favor of waiving the budget rules.

Senator Claire McCaskill, one of the Democrats voting with Republicans against the bill, said she was concerned about its costs as well as the carried interest provision that would increase taxes on investment fund managers.

She told reporters following a meeting of Senate Democrats that the provision might be changed to avoid discouraging investment while still "getting at the problem" of fund managers paying low capital gains tax rates on their earnings.

"That's still a little bit of work in progress," McCaskill said. "I think we haven't got quite the right combination on the carried interest stuff."

Senate Finance Committee Chairman Max Baucus was expected to offer a scaled-back version of the bill later on Wednesday.

Lawmakers are keen to address the $1.4 trillion budget deficit -- the gap between revenues and spending -- and the $13 trillion debt which have contributed to voter unrest ahead of the November congressional elections in which Republicans hope to regain control of Congress.

"Republican and Democratic senators are hearing what the American people are saying, which is, 'there is too much spending, there's too much debt,'" said Republican Senator Lamar Alexander.

PAY CUT RELIEF FOR DOCTORS

The modified version of the bill will most likely shorten Medicare pay cut relief for physicians treating elderly patients. The bill would have rescinded a 21 percent pay cut that went into effect earlier this month and postponed further cuts for 19 months.

For years Congress has voted for temporary "fixes" to the Medicare pay scale in a way that makes long-term budget numbers look better, but doctors are pushing for a permanent fix.

Democrats were also considering changing a provision that increased taxes for some small businesses in hopes of winning support from moderate Republicans. They also have been weighing a proposal to eliminate a $25 unemployment benefit increase that had been part of President Barack Obama's economic stimulus package passed last year.

It is unclear whether Democrats will touch additional Medicaid payments included in the bill for cash-strapped states. A provision to extend Build America Bonds, which are popular among Democrats and investors, was also likely to remain.

The carried interest proposal on taxing investment fund managers in the bill would tax 65 percent of investment fund managers' earnings at higher normal income tax rates. Currently investment fund managers enjoy a lower 15 percent capital gains tax rate on their earnings from managing investors' money.

A tougher version passed by the House of Representatives would tax 75 percent at ordinary income rates.

Under current law, the top income tax rate is set to rise to 39.6 percent in 2011 from the current 35 percent. The top long-term capital gains tax rate is also slated to rise in 2011 to 20 percent from 15 percent currently.

(Additional reporting by Thomas Ferraro; Editing by Vicki Allen and Eric Walsh)