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110 IRET Byline 1 (1993)

handle is hein.taxfoundation/iretbyln0110 and id is 1 raw text is: March 31, 1993 No. 110 Clinton's ITC: Too Brief, Too Small, and Too Strange President Clinton has proposed two types of investment tax credit (ITC) which he hopes will jump- start the economy near-term and improve long-term capital formation without costing much revenue. The credits are severely reduced in value by punitive offsets and other restrictions. For the large The total businesses that account for 85 percent or more of the nation's package wd investment, the credit is temporary cost of capii and would do nothing long term to in no way counter Clinton's proposed Clinton pac, permanent two percentage point capital to p increase in the corporate tax rate for large firms. The credits are likewise inadequate to counter the proposed permanent increases in personal tax rates affecting upper-income savers and investors who own and finance a significant portion of large and small corporations and unincorporated businesses. All businesses would also suffer from energy tax increases. The total Clinton tax package would raise the cost of capital. The credits in no way transform the Clinton package from anti-capital to pro-growth. Small businesses (those with less than $5 million in average annual gross receipts in the preceding three tax years) would be allowed a permanent investment tax credit that would apply to all of a firm's investment in eligible types of property. Eligible property would be the same types of assets, principally IRET& of their assets by Clinton tax ould raise the al. The credits transform the kage from anti- ro-growth. the amount of the credit received. That is, if the business received a $7 investment tax credit on a $100 machine, the business could only write off $93 under the normal capital cost recovery provisions. The higher taxes resulting from the reduced write-offs would offset roughly 30 percent of the value of the credit. On 7-year property of small corporations, for example, the effective credit in 1993 after basis adjustment would be 3.81 percent, instead of 5.6 percent. (See Table.) This 100% basis adjustment is the harshest in the history of the ITC. The expanded ITC introduced in the Economic Recovery Tax Act of 1981 had no such basis adjustment. Even the viciously anti-investment Tax Equity and Fiscal Responsibility Act of 1982 required that only half of the ITC be subtracted from the tax basis of the equipment. For unincorporated businesses, over 92 percent of the permanent 5 percent credit would be wiped out by the basis adjustment and the increase in the owners' marginal income tax rates. The rate hikes include the explicit hike in the statutory rates plus the effect on marginal rates from elimination of the Medicare tax Institute for Research on the Economics of Taxation machinery and equipment, eligible under past credits (section 38 property, consisting of property with 3-, 5-, 7-, and 10-year recovery periods and 15-year public utility property). Used property, purchased principally by small businesses, would not be eligible. The basic credit would be 7% on assets bought between December 3, 1992, and December 31, 1994, and 5% thereafter. However, 3-year assets would receive only one-third of the credit, 5-year assets two- thirds, and 7-year assets four-fifths, with the full credit reserved for 10- and 15-year assets. (See Table.) The small business credit would be subject to an annual cap to prevent abuse of the $5 million gross receipts rule. The value of the small business credit would be sharply limited by a basis adjustment. Small businesses would have to reduce the depreciable basis IRET is a non-profit, tax exempt 501(c)(3) economic policy research and educational organization devoted to informing the public about policies that will promote economic growth and efficient operation of the free market economy. 1331 Pennsylvania Ave., N.W., Suite 515, Washington, D.C. 20004 Phone: (202) 347-9570

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