The Small Business Stimulus Conundrum

This morning I had a chat with Chas Roy-Chowdhury, head of taxation for the Association of Chartered Certified Accountants, about the tax provisions for small business owners in the stimulus bill. Crafting a policy to help small businesses in particular is a bit of a conundrum, he says. Here’s why:

First, you get more bang for stimulus buck through direct government spending than through tax cuts. That’s because tax cuts may be saved or used to repay debt, but new spending means more revenue for businesses that get the contracts, who then buy more from their suppliers and hire workers, who have more income to spend, etc. Economists call this a multiplier effect. (For a great example of how this works in reverse, see this WSJ story about the ripple effects of job losses in one Texas town.) Roy-Chowdhury says the multiplier on spending is around 1.6, while the multiplier on tax cuts is around 0.3, so clearly spending is more effective way of stimulating the economy.

The problem for small businesses is that while every company pays taxes, not every company is positioned to take advantage of the “shovel ready” spending projects in the stimulus bill — repairing roads and bridges and other infrastructure, etc. “Tax cuts are much more global, much more universal to [small and mid-size businesses],” Roy-Chowdhury says.

So the package has tax cuts for businesses. A big one is the carryback loss provision, which would let loss-making businesses recover taxes paid on profits in the previous five years — the current law only lets you go back two years.

Another big piece is keeping the amount of new equipment purchases businesses can write off immediately (the so-called Section 179 expensing) at $250,000 — it was scheduled to decrease in the 2009 tax year to $133,000. So it’s an an incentive to invest in new equipment. The problem is that this is a “spend-to-save” provision, Roy-Chowdhury says. “The business has to have funding to make the capital investments,” he says. In this environment, with more firms retrenching than expanding, that may be tough. But if the economy starts to grow in the second half of the year (as some economists predict) small businesses may be in better shape to invest in equipment and take advantage of the tax break then.

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