2017 Tax Legislation

I’m CFO for a publicly-traded U.S. corporation and a CPA.

Setting aside the politics and public policy issues of this legislation for a moment, I would like to give a real-world example of how it impacts American business.

I just spent most of today analyzing the “deferred tax” accounts for our company to determine the impact on our company’s financial statements. Accounting standards require that we make this assessment and record the impact of legislation when it is enacted, even if the tax changes occur in the future. Enactment of this legislation will have a material effect on our company’s assets, liabilities, shareholders equity and net income as of and for the year ending 31 December 2017.

The tax bill’s promoters claim that it will cause businesses to hire more people and pay higher wages. However, this claim not only flies in the face of reason, it also displays a fundamental lack of knowledge on how business and market economies work.

Our company hires the people we need based on the needs of the business, which in turn is driven by consumer demand. We pay wages based on the labor rates set by the market for the talented people we need for our business.

We would not hire more people than we need, nor would we pay higher wage rates than we need to pay to attract and retain the people we need.

Furthermore, since the tax bill reduces corporate income tax rates in the future, it also reduces the effective tax subsidy for labor costs. Currently, for an employee paid $100,000 salary, we receive a $34,000 deduction (setting aside benefits and payroll taxes, etc.) at the marginal tax rate. In the future we will only receive a $21,000 deduction for this same cost. This raises our after tax labor cost by about 20% (from $66,000 to $79,000). Every business person knows that it is the after tax cost that matters most, and this tax change should be expected to reduce aggregate labor demand.

We also borrow money to finance our business, and the tax bill limits the deductibility of interest costs. At the same time, it is likely that interest rates will rise due to the massive federal debt increases ($1.5 trillion). Therefore, we will probably consider paying off debt with some of the future tax savings.

Finally, we will probably use any remaining tax savings to pay dividends to shareholders and/or buy back stock.

We would not normally invest tax savings in business expansion, since that analysis is first driven by expected consumer demand for our products. Since the consumer will not generally see material tax savings and many will have tax increases, it seems unlikely to expect an increase in consumer demand that would drive us to expand more rapidly than we currently plan.

It seems nuts that the policy makers in Washington don’t understand how business works, and don’t bother to ask us, before they enact such sweeping tax changes.

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