US Stimulus Tax Cut Thoughts Part I

The early indications are that as much as 40% of the stimulus package will come in the form of tax cuts - roughly half to individuals in the form of $1,000 per family checks ($500 to individuals) for those earning less than $200,000, and half to businesses in the form of accelerated depreciation, credits for new hires and tax loss carry-backs being extended to five years from the current two years.

The tax cuts have run into some objections that they will be ineffective. To some extent, the objections have validity, but the tax cuts do have the advantage of being able to be done in scale and quickly. In general, I think the business tax cuts are more suspect than the individual tax cuts.

Accelerated Depreciation

Accelerated depreciation would presumably cause firms to buy more equipment than they might otherwise, but in the face of weak demand, buying new machines might not be the best thing for companies to be doing. It would tend to reward those companies that were planning on buying new stuff anyway. And as with the other proposals, it makes the corporate tax code even more convoluted than it already is. However, of the three business tax-cut areas, it is probably the best.

Credit for New Hires

The credit for new hires suffers from the same problem that accelerated depreciation does. How many businesses will hire someone for, say, $50,000 a year just because they get a $2000 tax credit for doing so, especially in the face of weak demand? What would prevent a company from laying off someone and then a few weeks later hiring someone else and claiming the credit? This could turn into an administrative nightmare.

Tax Loss Carry-backs

The tax loss carry-back would mostly benefit companies that had huge losses last year but were highly profitable from 2003 through 2007.  Hmm, let’s see — what industry matches that description…oh yeah - Wall Street and the banks! Haven’t we given them enough without refunding all the taxes they have paid this decade?

This would also in effect ratify the legally dubious tax breaks that were given to JP Morgan (NYSE:JPM) and Wells Fargo (NYSE:WFC) in their purchases of WaMu and Wachovia, respectively. I don’t see any real incentive effects either, since all the activity is in the past. All in all, cutting the marginal tax rate for businesses might be a better approach.

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