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NAW News

Taxes

- April 2011

Lame Duck tax legislation:

NAW and the NAW-managed 1,000-member Tax Relief Coalition spent much of 2010 (and most of the preceding decade) advocating for permanent enactment of the tax rate reductions enacted in 2001 and 2003. While permanent extension proved unattainable, Congress did pass, and – more surprisingly – the President signed into law last December, compromise tax legislation that will hopefully remove much of the uncertainty that has impeded economic recovery. Specifically, the tax law included:

Income tax rate reductions: The new law extends for two years all of the tax rate reductions enacted in 2001 and 2003, including those for upper income earners, capital gains and dividends.

Death tax: The legislation prevented the return of the death tax this year at a confiscatory rate of 55% on estates above $1 million; instead providing for a top rate of 35% on estates in excess of $5 million per spouse.

Expensing: The bill included a business-friendly provision permitting 100% first-year expensing for 2011, retroactive to last September 8th, with 50% expensing for 2012.

Payroll tax cut: Effective in January, all wage earners will see an increase in their take-home pay resulting from a reduction in their payroll tax. Specifically, the FICA tax on employees (not on employers) will be reduced by 2% points, from 6.2% to 4.2%.

Tax extenders: The December legislation included the annual Congressional “tax extender” legislation, extending more than 50 provisions of tax law set to expire. Some of these are very familiar: the research and development tax credit, subsidies for producing alternative energy, and the annual “patch” to prevent the Alternative Minimum Tax from reaching millions of additional individual taxpayers. Other tax breaks in the bill are a bit more arcane: there’s a tax break for putting up windmills; rebates to Puerto Rico and the Virgin Islands from taxes on rum; a credit for railroad track maintenance; deductions for companies that donate food, books, or computers to specific recipients; a higher write-off for upgrading race tracks; even a tax break for movie and TV producers. And, of course, the package included the usual collection of huge tax breaks for banks and insurance companies and multinational companies that invest overseas.

Tax Reform:

With the passage of the tax bill in December finally taking off the table – for at least a year or two – the seemingly endless debate on what to do about the expiring Bush-era tax cuts, Congress could well turn its attention to other tax issues, including broad-based tax reform.

Contributing to the discussion of tax reform, the Obama-appointed National Commission on Fiscal Responsibility and Reform (Deficit Reduction Commission), in its December report to the President, called for a significant reduction in corporate and individual income tax rates coupled with reduction or elimination of the “tax expenditures” – preferences and deductions – that clutter and confuse the tax code

In principle, tax reform is a worthy goal. However, there is a growing division between domestic companies that pay an effective corporate income tax rate at or above the marginal 35% rate, and the large multi-national firms that have been able to significantly reduce their U.S. taxes through use of preferences in the tax code, especially foreign tax credits and deferral of taxes on their foreign income. According to an April, 2010 Forbes article on “What the Top 25 U.S. Companies Pay in Taxes” both GE and Bank of America paid no U.S. corporate income taxes in 2009, while many others paid far less than the statutory 35% rate (e.g., Ford, 2.3%; Hewlett Packard, 18.6%, Verizon, 10.5%). GE has gotten some additional recent unwelcome attention with reports that the company again paid no U.S. income taxes in 2010, in fact earning a several billion dollar U.S. tax credit, despite more than $5 billion in U.S. earnings. The current attention to GE’s tax position is noteworthy in particular because of President Obama’s appointment of GE CEO Jeffrey Immelt to chair his council on jobs and competitiveness.

Many argue that the use of foreign tax preferences is justified because the U.S. corporate income tax rate is the second highest among developed nations, and we are one of very few developed countries to tax companies on income they earn abroad; both provisions making U.S. companies less competitive in world markets. But the inevitable result of the extensive use of preferences by some large multi-nationals is that the domestic U.S. companies which pay taxes at or close to the statutory rate of 35% bear a disproportionate share of the tax burden – and that includes the vast majority of wholesaler-distributors. In effect, the companies which reduce or eliminate their U.S. tax obligations cost-shift their tax burden onto the rest of American business.

Meaningful corporate tax reform that significantly lowers the tax rate and removes most or all of the preferences from the code would remove the argument that preferences are necessary because our rate is too high, and at the same time level the playing field and ensure that all companies and industries are treated equally and fairly. NAW would enthusiastically support that reform.

But, as always, the devil is in the details.

For example, the President’s Commission calls for repeal of LIFO. As we all know, LIFO is not a tax preference, it is a means of valuing inventory that achieves the same purpose as FIFO – most closely matching cost of goods sold with cost of replacement inventory. We would aggressively oppose inclusion of LIFO as a tax preference to be repealed.

Also, there is increasing mention of the inclusion of a Value Added Tax (VAT) as part of reform; a tax that NAW and its coalition partners have consistently opposed.

Finally, tax reform should be advanced as a way to lower rates and broaden the tax base, not as means to increase federal revenue to feed government’s insatiable appetite. Previously enacted reform measures, the Reagan reforms of 1981 and the significant tax reform enacted in 1986, were designed to be “revenue neutral” – to raise the same amount of revenue but create a more even-handed and fair system.

President Obama’s Deficit Reduction Commission, on the other hand, proposed broad reform as a major tax increase to raise revenue, not as a means to achieve a fairer and simpler tax code. In fact, according to a public letter released in December by Americans for Tax Reform, the report “contains a ten-year net tax hike of over $1 trillion and increases tax revenues from their historical 18 percent of GDP to a record and permanent 21 percent.”

The very language of the report is troubling: referring to provisions of the code that reduce taxes as “tax expenditures” suggests that the revenue belongs to the government, and in effect treats tax revenues forgone the same as reductions in Federal spending. Whatever the merits of individual preferences and deductions, the money belongs first to the taxpayers, not to the government, and tax reform should not be pursued as a means to avoid cutting Federal spending.

While there is a lot of discussion of tax reform, legislation to enact it will be very complex and controversial. Both the House Ways and Means Committee and the Senate Finance Committee are holding hearings on reform, with Finance Chairman Max Baucus (D-MT) promising an almost-year-long series of hearings. While no legislation is expected in the very near term, we will be watching very carefully to see what path Congress takes on this issue.

LIFO:

As you know, LIFO repeal was included in each of the budgets the President submitted to Congress. NAW member companies and the members of our NAW-led LIFO Coalition have been aggressive and effective in making the case for LIFO to critical members of the House and Senate, and we believe are largely responsible for the fact that no action has been taken on repeal legislation. The success in preventing action on repeal is a text-book case of what business can achieve when it fully engages in the legislative process.

Despite the effectiveness of the businesses that worked to defend LIFO, we remain very concerned about possible repeal; that concern was intensified when the Deficit Reduction Commission included LIFO as a “tax preference” and recommended its repeal. In anticipation of the possibility that major tax reform might be considered in this Congress, the LIFO Coalition plans to resume our grass-roots effort, especially with almost 100 newly-elected members of the House and Senate who are unlikely to be very familiar with the issue. As a note aside, the election of Wisconsin Republican businessman Ron Johnson literally doubles the number of accountants serving in the U.S. Senate (the other is Senator Mike Enzi of Wyoming); ensuring that at least two senators will thoroughly understand the LIFO issue.

We also continue to monitor the activity at the Securities and Exchange Commission (SEC) as they move toward a decision on convergence of U.S.GAAP with the International Financial Reporting Standards (IFRS), although recent actions and statements suggest that the convergence to IFRS may no longer be the high priority it once was for the SEC or International Financial Standards Board. As the prospect of SEC action becomes less certain, pressure on Congress to act on repeal in anticipation of that action is alleviated.

Despite the mixed signals on convergence, Coalition leaders met in June with the Chief Accountant and several Deputy Accountants at the SEC to discuss possible regulatory actions to address the “conformity” requirement that would threaten LIFO if the SEC were to move to IFRS. We subsequently met with several staff members at the U.S. Treasury Department’s Office of Tax Policy, and finally with the Assistant Secretary of Treasury for tax policy. The need for immediate regulatory action to deal with the conformity issue was mitigated by signals that the move toward convergence has lost intensity, but we will continue to closely monitor the situation.