Expensing Change Looms as Tax-Reform Headache

Altering the way businesses write off expenditures could boost economic growth, but the move would be expensive and has prominent foes.

Farm groups are among those who say deducting interest over the life of a loan is preferable to a one-time tax break.
AP Photo/James Nord
June 28, 2017, 8 p.m.

Top House Republicans may be facing pressure to drop the border-adjustment tax—a levy on imports, but not exports—from their comprehensive overhaul of the tax code, but two other high-dollar provisions that are on the table could also divide GOP members.

House tax writers say full expensing—which would allow companies to immediately write off the total cost of capital investments such as machinery, inventory, and software—will encourage economic growth by incentivizing companies to make big purchases. But some Republicans say it’s too costly and isn’t as effective as a simple tax-rate cut.

Speaker Paul Ryan and Ways and Means Committee Chairman Kevin Brady included the expensing provision as part of their tax-reform blueprint, released in June 2016. The provision has been controversial, in part because the blueprint would offset the cost of the new write-off by eliminating another tax break: the deduction for net interest expense, which businesses use to write off some of the cost of financing.

That could set up another intraparty scuffle similar to that over the border-adjustment tax, which is fading from the stage amid criticism from some congressional Republicans, the White House, and influential conservative groups.

The price tag for adopting full expensing is eye-popping, even in the context of tax reform.

A recent report from the conservative-leaning Tax Foundation said that letting businesses immediately deduct the full cost of capital investments could cost the federal government as much as $2.2 trillion over 10 years. Factoring in new tax revenue created by increased economic activity from the provision could lower the cost to about $883 billion over a decade, the report said.

By comparison, eliminating the net interest deduction would raise about $1.1 trillion over 10 years, the Tax Foundation said.

Still, the foundation has an optimistic outlook for the impact of full expensing on the economy, saying it would boost the U.S. gross domestic product by 5.4 percent over a decade.

Scott Greenberg, senior analyst at the Tax Foundation, said full expensing could have a larger effect on the economy than other tax changes because every dollar deducted goes to new capital investments. For the interest expense deduction, some of those dollars go to rewarding past investment, he said.

“When we estimate in our model the trade-off between moving to full expensing and interest deductibility, we find that the net effect on investment remains positive,” Greenberg said.

The GOP tax-reform blueprint relies on the border-adjustment tax to raise as much as $1 trillion over 10 years. That new revenue would help tax writers reduce the corporate tax rate from 35 percent to 20 percent.

But the provision has received pushback from major retailers like Walmart and Target, as well as the groups affiliated with the Koch brothers. Two Koch network officials penned a June 22 op-ed in Brady’s largest hometown newspaper, the Houston Chronicle, calling on him to drop the import tax. Some members of the conservative House Freedom Caucus have targeted the tax as well.

All that effort seems to be paying off. In a June 20 tax-reform speech to manufacturers, Ryan didn’t mention the border-adjustment tax by name once. Brady has floated the idea of phasing in the import tax over five years, an effort to make it more palatable to critics.

Adopting full expensing or eliminating the interest deduction, or both, could be next.

It was a year ago on June 24 that House Republicans launched their tax-reform blueprint, a broad outline of policy goals for the first comprehensive rewrite of the tax code in more than three decades. In the document, the GOP described full expensing as “a more beneficial and more neutral substitute” for the interest deduction, and “a greater incentive to invest.”

But Ryan hasn’t been able to sway some in his party such as House Freedom Caucus Chairman Mark Meadows, who says full expensing is too costly. Meadows has advocated a smaller-scale expensing plan and keeping the interest deduction.

The administration holds a different view from House tax writers as well. President Trump’s campaign supported allowing businesses to choose between immediately writing off capital purchases or deducting interest expense, but his one-page tax-reform plan released in April doesn’t mention the provisions. Treasury Secretary Steven Mnuchin told The Economist in May that keeping the interest deduction was the administration’s “preference.”

Some conservative groups back Ryan and Brady’s plan for full expensing. Twenty-four organizations, including the National Taxpayers Union and the American Action Forum, sent a June 13 letter calling on lawmakers to adopt full expensing as part of a tax-reform bill.

The proposal to eliminate the interest deduction has less support among business interests. The move would hit industries that rely on debt to finance large portions of their business, like agriculture and real estate.

Washington industry groups have taken notice. The Businesses United for Interest and Loan Deductibility Coalition, a consortium of groups advocating to preserve the interest deduction, has been pressing lawmakers on the issue. Many businesses plan their capital spending several years out, which makes deducting interest over the life of a loan more attractive than a one-time tax break, said Brai Odion-Esene, a spokesman for the coalition.

“We believe it’s a way of front-loading near-term impacts at the cost of long-term investment,” Odion-Esene said of the full expensing plan.

The coalition reported $110,000 in lobbying expenses for the first quarter of 2017, according to the Center for Responsive Politics. It includes groups such as the American Farm Bureau Federation and the Equipment Leasing and Finance Association, Odion-Esene said.

Jon Traub, managing principal for tax policy at Deloitte Tax LLP, said that the pressure may have an effect on tax writers.

“I think we will see a lot of companies press that case, and I would not be surprised if a final tax bill ends up with a compromise that is something less than a complete repeal of the net interest deduction,” said Traub, a former staff director and tax counsel on the Ways and Means Committee.

Brady remains optimistic about the expensing and interest provisions, and has shown an openness to carving out exclusions for some businesses, including grandfathering in deductions on existing debt and allowing interest on land purchases to remain deductible.

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