Thumbs Up for the New Tax Plan

By Stephen Koepp

"Disastrous!" declared some business executives. "Delightful!" exclaimed others. "Difficult but necessary," said many more. Corporate leaders, still a bit stunned by the Senate Finance Committee's May 7 approval of a sweeping tax-reform bill, struggled last week to calculate whether they would be winners, losers or survivors under the proposal. While many could see their fate almost instantly, other executives besieged their accountants with questions about the tax plan as they rushed to decide whether to support or condemn the bill, which is scheduled for debate by the full Senate early next month. "I've had to replace my phone handle several times in the past week," quipped Barry Wallach, a partner with the Chicago-based Arthur Andersen accounting firm.

All told, the plan ramrodded by Oregon Republican Bob Packwood, chairman of the Finance Committee, would increase the tax burden on businesses. To raise enough money to give individuals an average 6.3% federal tax break, the committee's bill would levy an extra $100 billion on corporations over five years. The bill would reduce or abolish many cherished business preferences, including the investment tax credit of about 6% to 10% for companies that buy business equipment, and the full deductibility of corporate entertainment. In addition, many of the proposed changes in individual tax law, for example the curbing of individual retirement accounts, will strongly affect corporate America by changing the way consumers spend and save.

Several industries, including real estate and restaurants, have started howling in protest. They claim that Packwood's plan singles them out for more than their share of reform and will hurt their businesses. The majority of corporate leaders, though, appear to be lining up in favor of the committee's proposal. They see it as a relatively equitable plan and, moreover, one that could help them in the long run by boosting U.S. economic efficiency and growth. The bill's virtual abolition of tax shelters, for example, could stop the flow of investment capital into ventures that deliberately lose money to create tax breaks. The Senate committee's bill "is certainly the best version we have seen thus far," observed Du Pont Chairman Edward Jefferson. Said Robert Beck, chairman of the Prudential insurance company: "I could take that - bill and run with it. It is a super approach."

The Senate committee's proposed increase in corporate income taxes is less harsh than in earlier plans. By comparison, the House tax-reform bill passed last December would increase business taxes by about $140 billion. Says Paul Huard, vice president of taxation and fiscal policy for the National Association of Manufacturers: "There will be a strong inclination to support the Senate committee's bill, and the rationale will be largely damage control. If you have to choose between a $100 billion tax increase and a $140 billion one, you take the $100 billion."

In exchange for taking away loopholes, the Senate committee's bill would reward businesses by lowering the top business-tax rate from 46% to 33%. Said Willard Butcher, chairman of Chase Manhattan Bank: "What's different about this tax bill is the very significantly lower rate." For many businesses, that will go a long way toward offsetting the loss of preferences, and for some companies it will bring an overall tax cut.

Yet even businesses that would carry a larger burden under the committee's plan may be reluctant to make a fuss if it means holding up the bill's progress. The drawn-out process of tax reform, with all its uncertainty, has started to vex corporate leaders because it impedes them from making strategic plans. Complains Stephen Sinclair, president of Rubloff Financial Services in Chicago: "This has been going on since 1984. If they would just make up their minds and tell us what the tax law is going to be, we could go on and do our business." That prospect seems increasingly probable now that the committee's proposal is on a roll. President Reagan, speaking last week to the Tax Reform Action Coalition, a group of corporations and trade associations, gave the Packwood plan full support. Said he: "Starting right now, getting it passed and signed into law is a top priority."

Despite its apparent mainstream acceptance, the bill contains features that will be loudly debated in the days ahead and, if passed, will force businesses to make drastic changes. Among them:

Repealing the investment tax credit. Eliminating this program is a crucial ingredient of any tax-reform plan because it will save the Government almost $140 billion over the next five years. Yet it could cause hardship for capital-intensive businesses ranging from steelmakers to airlines, which have relied on the credits to help finance their investments in equipment. It represents a double whammy for companies that produce manufacturing equipment, because both they and their customers will lose the credits. Said Glenn Ekberg, president of Circle Boring, a machine-tool maker in Rockford, Ill.: "I'm surprised Congress has forgotten what a disaster they created for jobs in our industry when they cut (the investment tax credit) off before" in 1969.

Creating a 20% minimum corporate tax. This would prevent large, profitable companies from getting off scot-free at income-tax time, as many have done in the past because of loopholes. Boeing, ITT, General Dynamics, Greyhound and Grumman, among others, paid no taxes between 1981 and 1984, according to a study by Citizens for Tax Justice, a consumer and labor group. Commented T.A. Wilson, chairman of Boeing: "The complaint is that through various techniques, we defer taxes. I would just as soon have a minimum tax and take a lot less of that flak." The minimum tax would help finance the reduction of rates for companies that have been paying high levies, particularly such light industries as food processing and cosmetics.

Eliminating the capital-gains break for individuals. The committee's plan repeals the current provision that allows taxpayers to exclude from taxation 60% of the long-term profits they make when they sell stocks, real estate and other assets. Instead, such gains would be taxed as ordinary income. Doing away with the capital-gains break could hurt entrepreneurial companies like Silicon Valley's electronics upstarts, which depend on venture-capital financing. Reason: those potential backers would lose an important incentive if their profits were taxed at a higher rate. Says California Senator Alan Cranston, who plans to fight the committee's change: "It would put a tremendous obstacle in the path of the innovative young men and women who can create the technologies of the future."

Eliminating deductions for IRA contributions. Individual taxpayers would no longer be able to deduct up to $2,000 in annual contributions, though they would still be allowed to defer taxes on the interest they earn on their accounts. The committee decided to wipe out much of the IRA benefit because the accounts are expected to cost the Government some $13 billion this year, and it has never been proved that they prompt consumers to save more. But banks and mutual funds, which together hold a large chunk of the $250 billion in IRA accounts, want to shoot down this part of the proposal. Merrill Lynch plans a mass mailing to its 1.4 million account holders, which will exhort them to write to their Senators and complain about the loss of future IRA credits.

Curbing the deductibility of business entertainment. Though few business executives still drink three martinis at lunch in these days of white wine and Perrier, they continue to run up huge bills. The committee's plan would allow businesses to deduct only 80% of entertainment expenses, instead of the full tab. The restaurant industry warns that the tax-reform proposal could eventually cost the jobs of some 1.3 million waiters, busboys and other workers. But business analysts think that any cutbacks in corporate let's-do-lunching would be largely short-lived.

Repealing the deductibility of interest on consumer loans. Taxpayers would no longer be allowed to write off the interest they pay on auto loans, credit-card balances and other nonmortgage financing. This may bring a loss of business for lenders and the makers of vehicles and heavy appliances. Said Ira Shapiro, director of tax policy at the Coopers & Lybrand accounting firm: "It could change the way people buy big-ticket items. They may prefer to buy the cheaper item in a product line and pay cash for it, instead of borrowing."

Eradicating tax shelters. The committee put enough restrictions on tax shelters to make them all but extinct. Example: individuals will no longer be able to deduct investment losses on real property from other income. That provision, among others, has sparked an angry reaction from many parts of the real estate industry. The committee's bill would largely eliminate the tax- shelter partnerships that often finance shopping centers, apartment complexes and office buildings. As a result, the National Association of Home Builders warns of a sharp decline in housing starts, and the National Apartment Association predicts that rents would have to increase an average of 32.7% to make up for lost write-offs. Tax shelters for oil and gas drilling, however, were largely spared because of that industry's dire condition and political clout. Most businesses are finding that the new tax proposal is a mixed bag of helpful and hurtful surprises. Stockbrokers, for instance, would lose IRA business but would pick up investment money that might otherwise have gone into tax shelters. Automakers might suffer a bit because car loans would no longer be deductible, but could expect to benefit from the accompanying tax cut that puts more money into consumer pockets. Farmers would mourn the loss of the investment tax credit for buying tractors and other gear, yet would no longer face competition from tax-sheltered agricultural ventures, like cattle-breeding partnerships, that were designed to operate at a loss.

The impact of higher taxes on some industries will be softened by so- called transition rules, which determine how quickly the new law would be phased in. Steel companies, for instance, are lobbying the Senate committee to get some of the $5.5 billion in tax breaks set aside for the transition.

The biggest winner from the re form measure would be the economy, which the Reagan Administration esti mates would grow about 10% faster each year over the next decade because of lower personal tax rates. Consumer spending would spur the growth, since each taxpaying household should typically have $600 to $900 more in disposable income every year. Some taxpayers would reap a greater gain, particularly middle- and upper-income individuals who have largely avoided tax shelters in previous years.

Just as important, the reform measure would inspire investors to base their decisions on sound economic grounds rather than tax-law considerations. Said Charles Schultze, the chairman of the Council of Economic Advisers under President Carter: "It will eliminate a lot of distortions that are going on as people put their energies simply into taking advantage of tax shelters and finding ways to convert ordinary income into capital gains." Concurs Arnold Dill, chief economist at Atlanta's Citizens & Southern National Bank: "Look at all the empty office buildings we've built through tax benefits."

Packwood's proposal will get a last-minute assault from some lobbyists as it heads toward a final vote in the Senate next month. If approved there, the bill would go to a conference committee that would reconcile it with the House's bill. Despite those challenges ahead, legislators are beginning to think the measure has enough momentum to sail right through, especially since so many business leaders are climbing on board. Charls Walker, a veteran Washington tax lobbyist for large corporations, predicts that a finished bill will be on the President's desk for signing by July or August. If so, business executives will be in suspense for a much shorter time than they had originally feared.

With reporting by Gisela Bolte/Washington, with other bureaus