January 15, 2011

 

TMVi Tax Law Incentive Proposal for Small Businesses

 


Problem

 


  • Small businesses cannot get financing to maintain or upgrade. Start ups likewise are shut out of the credit markets. This inability to get capital is the primary reason small businesses, which generate about 70% of all new private sector jobs, are not hiring. In the US, the unemployment rate is 9.4% and the under employment rate is 17%.
  • The last time the unemployment rate was greater than 9% was the recession of 1980 which led to the defeat of President Carter and the election of President Reagan. The prime rate was around 20% and many businesses were unable to borrow at such high interest rates.
  • The US Economic Recovery Act of 1981 (ERTA) enacted a provision whereby businesses could sell tax benefits for cash. The law was unnecessarily complicated but was highly successful in creating an incentive for businesses to buy equipment even though the purchase gave such businesses no current tax benefit because of NOLs or tax credits.
  • The 1981 law was very successful but was repealed in 1983 for political reasons. Nevertheless, jobs were created and the economy grew.

Proposal


  • A small business can sell its new depreciation deductions to any US taxpayer. This has no cost to the US Treasury since these depreciation deductions are already scored in the deficit calculations by the Congressional Budget Office. All that is needed to be done is for Congress to enact tax legislation to allow the sale of new depreciation deductions for equipment. (This TMVI Tax Law Incentive Proposal can be adapted to assist United Kingdom small businesses by allowing the sale of current UK depreciation deductions through a City of London clearinghouse.)
  • The sale of new depreciation deductions will be for cash determined by the market. The seller will buy equipment and then file a form with the IRS showing the name, address and tax ID of the Buyer. The Buyer will be a US taxpayer who can use the tax benefits of depreciation to reduce its taxes. The Buyer will use its private capital and transfer the cash to Seller. The Seller will use the cash to reduce its cost of the new equipment or use the cash as working capital.
  • This concept contemplates the creation of a clearinghouse whereby Sellers and Buyers of depreciation tax benefits come to a transparent tax benefit market. The market will create a bid and asked price for the tax benefits to determine a fair market value.
  • A further expansion of the sale of tax benefit concept would be to enact new legislation providing for a 10% investment tax credit (ITC) on all new equipment. This tax benefit can be sold in the same manner as new depreciation deductions. This ITC proposal is a Phase II portion of the sale of tax benefits because:
    • New legislation will increase the deficit unlike the new depreciation deduction portion which is already in the law.
    • The ITC proposal requires more than 50% of the equipment to contain US content. This provision might cause issues with World Trade Organization (WTO) rules which prohibit “subsidies” for local content. The proposal is not a “subsidy” intended to put foreign produced equipment at a disadvantage; the intent is to grow the domestic US market through production for US consumption. It is better to seek only the sale of new depreciation deductions at this time which is not controversial and does not add to the deficit. We do not want the perfect to be the enemy of the good.

Example



Seller Newco buys $500,000 worth of new computer servers and workstations. Under current US tax law just enacted in December 2010, Newco can expense the entire $500,000. However, Newco has other deductions so that it will run at a tax loss this year. Therefore, the new depreciation for the new computer equipment gives Newco no current tax benefit.

 


Newco goes to the tax benefit clearinghouse and offers to sell $500,000 of new depreciation deductions. Corporation X which has significant capital and is currently paying tax at 35%, seeks to buy the $500,000 depreciation deduction worth 35% of $500,000= $175,000. Other than a small transactional cost and a small profit to Corporation X to be determined by the “bid and asked” market, Seller Newco receives $175,000 cash which reduces its current equipment cost purchase to $325,000. No government funds are involved; the only change the government will see is that Corporation X not Newco will claim the $500,000 depreciation deduction. Private capital is now being used more efficiently to grow small businesses and increase small business employment.

 



Summary

 

The sale of new depreciation deductions for equipment can be enacted quickly with no cost to the US Treasury. These sales can be accomplished through a tax benefit clearinghouse where willing buyers and sellers can sell new depreciation deductions. Sellers will receive private capital from private buyers for their new depreciation deductions. Government will be an enabler not a director as to who, what or where the private capital will be used. Small businesses will be empowered to monetize these new depreciation deductions. This will efficiently utilize capital, grow small businesses and increase small business employment.