Muni-bond market can rest a bit easier under revised tax plan
Anyone who owns a municipal bond can breathe a sigh of relief. And at least for the rest of the year, so can state and city governments. The Senate Finance Committee voted 19 to 0 Monday that interest on existing municipal bonds, or ones issued before Jan. 1, 1987, will continue to be exempt from federal taxes.
The concern that muni-bonds would be taxed had played havoc with the bond markets last week, virtually stopping trading and causing state and local governments to put off issuing new bonds.
The Finance Committee did not decide whether bonds issued after 1986 would be taxable. If they are, it would be much more expensive for cities and states to raise money, since they would have to raise the interest rates they pay on bonds to attract buyers. Eventually, critics of the proposals say, taxpayers would foot the bill for higher cost services.
The municipal bond issue is only one of many controversial portions of the tax reform proposal by Sen. Robert Packwood (R) of Oregon, who is chairman of the Finance Committee. Perhaps most controversial is its treatment of excise taxes and tariffs.
The House in December passed a bill to lower tax rates and cut out special preferences. The Senate Finance Committee hopes to have a Senate bill passed by June and to present President Reagan with a joint House-Senate agreement in August.
Many companies appear to be fairly satisfied with the House version -- as satisfied as one could expect, given that their tax burden would be increased by $140 billion over five years. There are major exceptions, in the area of real estate and natural resources, which would lose some of the favorable tax treatment they have under the current law.
What is most appealing about the House bill is that it lowers the top tax rate from 46 percent to 36 percent. That helps high-bracket taxpayers. It also aids large companies that make consumer goods, light industry, and service-sector firms. These currently don't buy a lot of equipment and therefore cannot deduct the capital investment.
The Senate bill, proposed by Mr. Packwood last week, lowers the maximum rate to 35 percent and preserves special preferences for mining, oil-drilling, and timber interests to help get it through committee. But it has come under attack by companies that had been staunch supporters of tax reform. And it contains some provisions that could have a peculiar effect on business, economists and tax accountants say.
One effect might be to push some companies into bankruptcy, or at least merger.
The Packwood proposal would no longer allow manufacturers to deduct excise taxes from their pretax income. That would raise an estimated $62 billion in revenue. However, it would have the effect of raising the cost of the excise tax to the manufacturer by 35 percent or more, economists say.
This could cause a jump in the prices of goods that are subject to excise taxes: airline tickets, gasoline, tobacco, liquor, telephone services, wagering, gasoline, and products moved by highway trucking, to name a few.
With products like cigarettes, where the buyer is less sensitive to price increases, it's fairly easy to pass on the cost. But in industries like airlines or trucking competitors often can't pass on the increase to the consumer for fear of losing customers.
``Any time there's a change in the game rules, you hurt the marginal companies,'' says Thomas Ochsenschlager, a partner at the accounting firm Grant Thorton. Their alternatives, he says, are to raise prices and lose customers, or to absorb the increased costs.
Many such firms are already working with slim profit margins. Those that can borrow or attract investment ``to get over the hump'' probably could make it, he says; but these are often the healthier companies anyway.
Kenneth Simonson, chief economist at the American Trucking Associations, says the Packwood plan would decrease trucking company profits by 20 percent and only the most profitable operators would survive. Trucks and parts, as well as diesel fuel, are subject to excise taxes.
Retailers, moreover, argue that heavily taxed items like textiles and apparel would raise the cost of the tariff to retailers by 65 percent. It could also make trouble with United States trading partners. ``There's a very real possibility that other countries would raise their tariffs'' on their products in a tit-for-tat move, says one attorney.
However, that same provision could shore up smokestack industries that have been losing ground to imports. When the voluntary trade restraints by foreign steel manufacturers end, probably in three or four years, the higher tariffs could raise the price of imported steel and thus help to protect US steelmakers.
Both the House bill and the Packwood proposal recapture revenue lost to lower tax rates by eliminating the investment tax credit (ITC), which allows a company to deduct the cost of new plant and equipment.
Losing the ITC will deal a blow to heavy industry, especially those in the throes of modernization (like steel, autos, even high-tech firms, which make rapid investment to keep up with their growth). But many economists say it was a giveaway, since companies would have made the investment anyway.
The Packwood plan softens the punch by refunding, in one year, 70 percent ($31 billion worth) of all unused investment tax credits. That's a ``nice plus,'' says Robert Toothman at National Steel, which has accumulated $37 million in credits. It most benefits farmers and companies that don't expect to make a profit in the next few years, such as import-bashed industries like steel and textiles. They had accumulated credits but had not been able to use them because they weren't making enough (if any) taxable income.
That bonus, however, may be short-lived. ``We're going to do everything we can'' to preserve it, says William Thompson at National Steel. ``But if the pressure is significant to knock out the excise tax provision, they'll probably take another look at the ITC.''
Banks don't fare well under either the House bill or Packwood proposal. Both would limit the way a bank can deduct for loan loss reserves. The House limits it for large banks; Packwood for all banks. One banking representative predicts that provision will make banks more conservative in their lending practices and even cause them to foreclose on customers sooner. It could also cause banks to keep ``dangerously low'' reserves. Given the precipitous position of many banks because of the depressed farm and oil industry, he says, the industry can ill afford this.
The Packwood plan could still contain a hidden bombshell for corporations: higher state and local taxes.
Unlike the House bill, Packwood's would not let individuals deduct state and local taxes from their federal income taxes. That would eat into revenues for state and local governments, says Thomas Smith of the National Conference of State Legislatures.
``States are going to have to find the revenues to pay for services,'' he says. ``And the only logical place to look is the business community and also real estate taxes.''