Business view of tax plan. President Reagan's reform is likely to pit high-tech sector against heavy industries such as steel, autos
Pop demographers love to label California's Silicon Valley and its dozens of high-tech clones throughout the United States ``The Future of American Industry.'' And they're just as likely to toss off the steel mills of Pennsylvania and Ohio as the ``rust belt,'' the dying past.
For better or worse, President Reagan's tax plan embodies that view also.
It splits American business right down the middle. On one side are high-tech, service-sector outfits (ad agencies, fast-food franchises), and professionals (doctors, lawyers). The tax plan looks great for them.
On the other side are the big old industries of the American heartland, still reeling from the back-to-back recessions of the early 1980s and trying to survive amid heavy competition from abroad. The Reagan plan could make life even tougher for smokestack industries.
The biggest reason: a major overhaul in depreciation schedules and tax credits.
Old-line industrial companies invest heavily in machines and factories to produce steel, autos, and millions of other products. The Reagan plan would decrease the write-offs these companies have been getting for their plant and equipment investments.
House Ways and Means Committee chairman Dan Rostenkowski (D) of Illinois hinted last week that Congress might even try to take a bigger bite out of depreciation than the Reagan plan.
Any reduction in depreciation allowances would mean less cash for smokestack industries, and a ``windfall'' depreciation tax contained in the plan would have an immediate negative impact. Such changes could hasten the decline of American smokestack industries, some concerned economists say.
But most high-tech and service-sector businesses -- with the important exception of semiconductor makers -- do not rely on big machines or make major plant investments. They travel light. Research and development and skilled personnel are important; fringe benefits help retain these employees. The Reagan plan, while tightening some fringe benefits, would maintain features such as incentive stock options and 401(k) savings (though at a lower rate). It also would extend the R&D tax credit for three years.
High-tech and service-sector firms are characterized by rapid growth, big earnings, low debt, and shareholding from the likes of venture capitalists. The biggest boon of all would be reduction of the corporate income tax rate to 33 percent from 46 percent. More of those hot, new earnings could be retained. Moreover, venture capitalists and other investors in start-up outfits would benefit from more liberal capital-gains treatment and the deductibility of at least part of their dividends.
Of course, some of these preferences -- especially the lower tax rate -- would help the old-line industrials, too. But not enough to offset the loss of the Investment Tax Credit (ITC) and elimination of the Accelerated Cost Recovery System (ACRS), says Allen Sinai, an economist with Shearson Lehman Brothers.
One big effect, he writes in an analysis of the tax plan, is to ``shift the burden of taxation away from small business to larger corporations.''
High-tech's initial media reaction looked like gloating over its good fortune. But that is not the way high-tech businesses really see things, says Ralph Thomsun of the American Electronics Association in Palo Alto, Calif.
True, high-tech views the plan as ``very companionable, pro-growth, pro-entrepreneur,'' but it ``is very uncomfortable with the `we/they' division. We have to sell to someone, and it's usually our basic-industry cousins,'' Mr. Thomsun says. ``Anything that injures them is bad for us.''
Drastic reductions in ACRS depreciation schedules and the elimination of the ITC are ``an attack on capital-intensive industries,'' charges David Burton, a tax specialist with the US Chamber of Commerce. ``Those who heavily invest in machine and equipment will do substantially worse.''
``The reason to go through with tax reform is to help the economy,'' Mr. Burton says. ``But this plan as it now stands is not pro-growth.'' Despite the lower corporate tax rate and the step toward decreasing double taxation of corporate dividends, Burton sees the Reagan plan as ``a massive increase on business to pay for an individual rate reduction.''
The oil industry is fairly circumspect about the tax plan. It is concerned about the loss of the oil depletion allowance (which only independent oil firms now benefit from) and the ITC.
``Overall, we see it as adverse,'' says Earl Ross of the American Petroleum Institute.
But he says institute members are being polled at the moment, so the organization does not have a definitive position.
By far, the steel industry would suffer most.
The American Iron & Steel Institute points out that steel companies have been feverishly cutting costs and investing in more modern equipment in recent years, despite their yearly losses. This equipment can be astoundingly expensive: A continuous casting machine can cost $250 million. In the past five years, 16 of these casters have been installed and another eight will be in place by the end of the decade.
``We need massive amounts of money to modernize,'' an industry source says. ``There's excess steel capacity in the world. Labor costs are high. Voluntary quotas are not leakproof. We've been investing heavily, and we're counting on some of those tax benefits [in the current tax code] to offset those expenses into the future when we start making money.''
Tightening those benefits would be bad enough. The Reagan plan also includes a provision that would slap a windfall tax on the difference between accelerated depreciation and straight-line depreciation -- a retroactive change in the rules that affects those hundreds of millions of dollars industry has already invested.
Taking away investment benefits, the steel spokesman says, would hobble an already struggling industry.
Martin Feldstein, former chairman of the Council of Economic Advisers under President Reagan, goes further. In remarks to be given to the House Ways and Means Committee Tuesday, Dr. Feldstein says elimination of the ITC could cause a recession in 1986. He also argues that permanently reducing the incentive to invest in business equipment would hamper the productivity and competitiveness of US manufacturers.
And he decries the windfall tax as unfair.
In addition, deductions for business meals, business travel, and entertainment would be reined in.
That might cause problems for high-priced restaurants, resorts specializing in business confabs, and even for Broadway plays and sporting events -- all of which have benefited from the ability of business people to deduct expenses.
The first five articles in this series appeared June 3-7.