Uncle Sam, are you helping GM or not?

As if the government’s bailout efforts haven’t been silly enough, now General Motors has something else to worry about. If GM can get its bondholders to swap debt for equity—just like members of Congress and the Obama Administration want—the automaker will have to report the reduced debt as taxable income. That means that GM could end up with a tax liability as big as $7 billion, according to a report in the New York Times. That’s enough to bankrupt the company.

So GM is frantically lobbying Congress to get the liability waived. And well they should. If Congress and the Administration don’t waive the liability, it is tantamount to a tax on restructuring. It also throws into bankruptcy a company that the government is trying to keep solvent. This reminds me of President Reagan’s decision in 1986 to tax unemployment benefits, only the stakes are of Hummeresque proportions. Come on Uncle Sam, are you helping GM or not?

At least there seems to be a stomach for waiving this kind of tax liability. Three Senators, Kentucky Republican Jim Bunning, Olympia Snowe (R-Maine) and Arkansas Democrat Blanche Lincoln, pushed to suspend taxes on unemployment compensation. Maybe Congress will work to ditch this tax liability as well. If they don’t, then the loan program will be for naught.

The Federal Government could defer the liability. But even that is dicey. GM has made the case that it will be a money maker in a few years. If its restructuring plan slashes the debt by 70% like the plan says, and the company can replace veteran workers making $28 an hour with new hires making half the wage its labor and interests cost will drop big time. The company will have a shot at real profits. Off loading all of those retiree healthcare costs into a trust controlled by the union, which is supposed to happen in 2010, will save billions a year, too. But saying that GM will be a profit generator also assumes that the car market can get back to the 16 million or so cars a year that auto executives think is normal, and that GM will still have 20% market share.

Neither is a cinch. GM may be able to restructure itself back into the black in a couple of years. But generating the kind of cash to pay off its still-massive debt, develop new technology to meeting stiff fuel economy rules, engineer the models to compete with stronger Japanese rivals and then pay a deferred tax liability is a very tall order. I think the government is in for a dime and in for many dollars on this one.

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