Corporate Investment Tax Credits: The U.S. Treasury would rake in an extra $37.4 billion in 1990 if President Reagan succeeds in his plan to kill investment tax credits outright. Although big public companies in the oil and steel industries are protesting the loudest, small companies, particularly capital-intensive ones, would also suffer.
The credit, which generally equals 10% of the equipment's purchase price, would be eliminated for property that was purchased after 1985. Property placed in service this year would still qualify for the investment credit.
CASH AND CAPITAL AVAILABILITY
Cash-Basis Accounting: If there is a smoking gun in Reagan's tax package, this is it: The plan would prohibit the use of cash-basis accounting by businesses that have sales of more than $5 million annually or that use accrual accounting in reports to shareholders or banks.
"It's that reports provision that is likely to trip up small companies," explains Stephen R. Corrick, a partner in Arthur Andersen & Co.'s Washington, D.C., office. "Most banks demand some kind of accrual-basis financial statements from borrowers. So while companies may pass the $5-million test, they could flunk the accrual test."
Under the President's plan, thousands of service businesses -- including insurance agencies, repair shops, freight lines, consultants, law firms, doctors, accountants, credit bureaus, motels, hotels, and restaurants -- would be forced onto the accrual accounting system. Since this would have a negative impact on cash flow, small businesses would find it much more difficult to finance expansion through internally generated funds.
Ronald S. Schacht, a tax attorney in New York City, suggests that companies stop preparing accrual-basis reports immediately, if possible. "I can't see the IRS forcing a business onto the accrual method if it's no longer doing accrual reports," he says.
In this regard, the Reagan plan does offer one tax break, a system whereby companies would be allowed to add up their uncollected accounts receivable (among other items) on January 1, divide that figure by six, then report that amount as income on their tax returns each year for six years.
Dividend Deduction: Current law doesn't allow companies to deduct from taxable income any dividends paid to shareholders. But Reagan would permit corporations to write off 10% of these payments, starting in 1987. Although this provision would primarily benefit big businesses, all dividend-paying companies stand to gain.
Installment Sales: Receivables financing is a technique used by many businesses to improve cash flow. A house builder, for example, will take out a loan from a bank or commercial finance company against money owed him by his customers. In the process, he will gain access to funds that are normally unavailable to him during collection periods. Under present law, he can borrow money on his accounts receivable, but not report that amount as income until his customers actually pay up.
The Administration's plan would change this practice. It calls for the recognition of income, for tax purposes, at the time receivables are pledged as security for a loan. An exception is made for receivables that are normally collected within one year -- for example, a revolving charge account. "This provision wouldn't hurt small retailers," Schacht explains. "But it would be a problem for house builders."
In addition to house builders, businesses that would be affected by this change include architectural firms and manufacturers of such big-ticket items as computer systems, automobiles, heating and cooling systems, and heavy equipment and machinery.
Bad Debts: President Reagan would limit deductions for bad debts to actual losses, and prohibit the common -- and long-standing -- practice of adding to a reserve for bad debts. This new rule would hit banks hard, but that means small companies could be affected as well.As Cary R. Mikles, a tax manager in the New York City office of Seidman & Seidman/BDO, explains, "If a bank's costs are going up, you can bet those costs will be passed on to customers. The change also could make banks more cautious in their lending to businesses, and it might even drive interest rates up slightly."
Index Inventories: Perhaps the most commonly used inventory method is FIFO -- first in, first out. It assumes that the oldest item in inventory will be the next item sold. But, during times of inflation, this method usually reflects a cost of sale that is below current replacement prices. For that reason, many businesses now use another inventory method, LIFO, or last in, first out. This complex mechanism assumes that the last item purchased is the next item sold, so current replacement costs are charged against current sales.
Reagan's plan would allow taxpayers to use a third inventory method. It would be more complicated than FIFO but less complicated that LIFO, and it would be indexed to inflation, thereby giving companies a greater opportunity for increased write-offs.
Industrial Development Bonds: Just when small companies' interest in industrial development bonds (IDBs) has started to heat up, Reagan wants to prohibit their use in financing private projects. If he succeeds, no private company will be able to use low-interest IDBs to finance construction of buildings or to buy new equipment.
EMPLOYEE EXPENSES
Travel: The Reagan proposal would eliminate tax deductions for travel by ocean liner, cruise ship, or other forms of luxury water transportation if the cost exceeds the price of an airplane ticket. Also out are deductions for the cost of seminars held aboard cruise ships. Another restriction: Travel expenses would be disallowed for employees with travel assignments that extend for more than one year in one city -- a change that would force companies to relocate employees rather than dispatch them on long-term assignments.
