Corporate Tax Cuts Lead to Mental Gymnastics
This post originally appeared in Money Stuff.
One effect of Congressional Republicans' tax plan is to cut taxes on corporations. If corporations have to pay lower taxes, then they will have higher profits. The math on this is fairly straightforward. (Pretax profits minus taxes equals net income, is the math.) Higher profits are good. But the accounting math is slightly more complicated. "Bank of America Corp. Chief Executive Officer Brian Moynihan said his firm would also take a hit, having to decrease the value of its deferred tax assets." The rule is that if you lost money in the past, that means you can pay lower taxes in the future, but if taxes go down in the future then the future value of your past losses to offset taxes also goes down. By lowering taxes, the bill will lower the value of Bank of America's past losses to offset future taxes. That is ... a bad thing, accounting-wise ... but it requires a certain amount of mental gymnastics to conclude that it is a bad thing economically. Accounting says your past losses are good and your future lower taxes are bad. Common sense might disagree.
Another effect of the tax plan is to immediately tax multinational companies on certain income that they previously earned overseas. If corporations have to pay a big tax next year, then they will have less money next year, even if in the future they will have higher profits. Here, again, the accounting is not quite the same as the naive math. Apple Inc., for instance, "would immediately have to pay an estimated $31.4bn on its past overseas earnings, according to Richard Harvey, a tax professor at Villanova University who has testified before the Senate on Apple’s tax affairs." On the other hand, Apple "estimates that it would have to pay $78.6bn in taxes if it brought the money back under the current regime." ("However, with Apple choosing to defer the tax indefinitely, that bill is unlikely ever to come due in full."):
The difference between the two numbers is at least $47bn, a figure that exceeds the annual profits of any other US company.
Unlike most other US multinationals, Apple has already taken billions of dollars of charges in past years to reflect its potential taxes. It has set aside $36.4bn for those bills — more than the tax charge it is now likely to face — and would likely record the difference as a one-off profit.
The cash-flow impact is: Next year Apple will have to pay $31.4 billion that it wouldn't have had to pay under the current regime. That is a huge new one-time expense, which seems bad.
The impact under U.S. generally accepted accounting principles is: Next year Apple will have to pay $31.4 billion, but it had already reserved $36.4 billion for that expense, and will be able to release the reserve. That is a $5 billion one-time profit, which seems good.
The economic impact is: Next year Apple will have to pay $31.4 billion, which is $47 billion less than the $78.6 billion that it sort of expected to have to pay, but the $31.4 billion is now and the $78.6 billion was indefinitely deferrable, so the actual economic goodness or badness is a somewhat subjective and debatable matter. The GAAP approach -- using Apple's reserve as its best guess about the expected present value of that $78.6 billion -- is as good as any I guess.
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