Andy Fishburn 2017-03-10 04:15:07
FOR SEVERAL MONTHS NOW, in anticipation of tax reform discussions during the 115th Congress, a working group of the ELFA Federal Tax Committee has been modeling the effect of potential tax reform plans. Because many of the tax reform plans have similarities, and because the House Republicans have been out in front on this issue, the work has focused on the blueprint put out by House Republicans last summer (https://waysandmeans.house.gov/taxreform/).
The key aspects of the plan that were modeled were as follows:
• A proposed shift to 100% expensing in the first year of ownership rather than the current depreciation schedules;
• Elimination of the ability to deduct net business interest expenses (where interest expenses exceed interest income); and
• Reduction in the headline corporate tax rate from 35% to 20%.
If your company has looked at the effect of tax reform on your business, we’d like to hear from you.
When comparing the environment under the proposed GOP blueprint to the base case (current law, but no bonus depreciation since bonus depreciation is being phased out) the following are the key findings:
• The cost of leasing equipment goes up because the value of the deduction of the lease payment goes down as tax rates are reduced.
The cost of buying equipment goes up because of the acquiring company's inability to deduct interest payments and the value of the deduction of the 100% expensing is reduced due to the reduced tax rate.
Leasing is advantaged over buying due to the acquiring company's inability to deduct interest payments.
Under the limited scenarios that were modeled, lessees are ultimately better off under the GOP blueprint because the benefits of the reduced tax rate on income outweigh the increased costs of acquiring capital.
Costs of municipal leasing will go up due to the value of the interest deduction to the lessor (once netted) being reduced by the lower statutory tax rate requiring an increased cost to maintain a consistent rate of return.
There are several important caveats to this modeling exercise:
This analysis was done in a vacuum where other macroand microeconomic changes to the economy and the impacts of other proposed changes to the tax code were not analyzed.
Assumptions were made as part of this analysis that will not hold true in all cases (e.g., it was assumed that the customer is not in a net operating loss situation).
Net interest is not defined, and other key factors have not been fully articulated by the GOP blueprint.
The analysis that was conducted does not specifically look at the impact of the GOP blueprint on capital acquisitions by companies that do not have access to debt markets and are generally making decisions on a cash-flow basis rather than a sophisticated lease vs. buy analysis. For example, for a small business looking to purchase a copier, its investment decision is more along the lines of spending $12,000 now or $250 a month for 60 months, not whether they will issue corporate debt in order to fund the acquisition.
The analysis did not assess situations where the lessor or the lessee may be taxed as a pass-through entity and subject to a proposed 25% rate
One other aspect to the modeling is of importance to the equipment finance industry. Logically, if the Congress were to limit the ability to deduct interest expenses, one would need to carve that out of lease payments, in effect setting up a principal and interest component to any lease payment, possibly including operating leases. Thus, the interest component portion of the lease payment would no longer be deductible to the lessee, and would count for netting purposes to the lessor. Luckily, the early indications are that under the new lease accounting rules, this will be occurring anyway for accounting purposes. The working group did look at this issue and the early results indicate that when lessees are only allowed to deduct the “principal” portion of a lease payment, it appears, based upon early analysis, that the lease vs. buy decision reverts toward the baseline; however, not entirely, and this needs further analysis, which is ongoing.
If your company has looked at the effect of tax reform on your business, the ELFA Federal Government Relations team would like to know. We’d also like to know if you think that the results outlined above are not what you would expect in your business. Please contact Andy Fishburn at afishburn@elfaonline.org if you’d like to discuss your results or if you’d like to participate in further efforts to fully understand the impacts of tax reform on our industry.
For more information, contact Andy Fishburn, ELFA Vice President of Federal Government Relations, at afishburn@elfaonline.org.
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