President Bush took a bold rhetorical stance in both his State of the Union address and his budget for the fiscal year: What Congress has given in tax cuts, Congress should not take away through gimmicky “sunsets” and “phaseouts.”
A closer look at the effort to make his tax cuts permanent, however, reveals that one very valuable component of the president’s jobs and growth agenda is being allowed to expire at the end of the year: partial business expensing. The White House and Senate Budget Committee Chairman Don Nickles (R.-Okla.) are both on record as saying that this tax increase should go forward.
Most economists believe that one of the principal causes of the 2001 recession was a severe drop-off in business investments in new computers, machinery, and other equipment after the late 1990s tech bubble. The tax code doesn’t help.
Instead of being allowed to deduct the purchase of a new copier or jackhammer in the year of its purchase, the IRS makes companies “depreciate,” or partially expense, the item over five, seven, or even twenty years–all without adjusting for inflation. As a result, the tax code is biased against businesses reinvesting in themselves through new purchases.
The Bush tax cuts went a long way toward correcting this imbalance. Businesses are now allowed to first write off up to 50% of their asset purchase before subjecting the rest to the mind-numbing complexity of depreciation tables.
As a result, the economic upturn of late has witnessed a huge boom in business investment and productivity. The purchasing managers index (which tracks how much equipment businesses buy) jumped a staggering 34% between the passage of the last Bush tax cut and the end of 2003.
This is after a faltering index dragged the economy down for much of the recession and during the halting recovery as well. It now stands at its highest level since the computer-buying surge in anticipation of Y2K. The result is a far deeper base for productivity growth that, in turn, will fuel an increase in wages and every American’s standard of living.
As a quick example, suppose a business buys a computer for $1,000. Under the tax law that would be in effect after the end of the year, the business could only deduct $200 of that the first year. It would take a full six years to deduct the cost of the purchase, without any adjustment for inflation. But with partial expensing, the immediate first-year write-off increases to $600. For a business in the top tax bracket, that’s an immediate tax savings of $210, money that can be used to create jobs and grow the business.
By any measurement, moving toward expensing of business equipment has been a home run for the economy. It’s as important to the recovery as lowering marginal tax rates and cutting the capital gains and dividends taxes. So why does the White House and Congress want to shove it overboard? You might think that policymakers would use this powerful evidence to move toward full and immediate expensing for all business purchases.
The reason for abandoning this successful reform, sadly, is that pro-growth proponents of business expensing have been cowed by flawed, static analysis purporting to show the inordinate “cost” of this stimulant to Uncle Sam. The Congressional Budget Office (CBO) recently estimated that failing to raise this tax on America’s businesses will lower revenues by $440 billion over the next decade. Nonsense. Encouraging businesses to invest and expand free of the growth-destroying biases of the tax code will lead to higher corporate profits, higher wages, and more tax revenues.
This was the same jobs-destroying misconception that gutted the partial expensing provisions of the 1981 Reagan tax cut. In it, President Reagan allowed businesses to write off investments much more quickly. Because of concerns about the deficit, Democrats and weak-kneed Republicans watered down the provision, leading to the slower write-offs we have today. Rather than discouraging businesses from buying new technology and equipment, we ought to be making it easier: Let them write off the full purchase in the first year.
Congress should make all of President Bush’s tax cuts permanent. For that matter, the President himself should fight to keep his entire jobs and growth package intact. Getting rid of such a proven stimulant to economic growth as partial business expensing simply makes no sense.