What the tax incentive bill means to fabricators
April 12, 2002
Despite generous write-off allowances, the Job Creation and Worker Assistance Act of 2002 isn't inciting the type of industrial buying spree politicians had hoped for.
New federal tax incentives for the purchase of capital equipment could have a big impact on fabricators but apparently have not made much of an impression yet.
The incentives were part of the Job Creation and Worker Assistance Act of 2002, which Congress passed and President Bush signed March 9. The bill was designed to catapult the economy out of recession by giving companies a reason to buy capital equipment right now.
The key business tax provision in the bill, and the one most eagerly sought by groups such as AMT - The Association for Manufacturing Technology (www.amtonline.org), was a "bonus" first-year depreciation of 30 percent over the next three years for new, qualified capital investments made after Sept. 10, 2001, and before Sept. 11, 2004.
Another important provision extends the net operating loss (NOL) carryback period to five years—from the current two years—for NOLs arising in taxable years ending in 2001 and 2002.
The bonus depreciation provision is the big deal for fabricators. Here is how it works. Most of the machine shop equipment fabricators purchase falls into the seven-year depreciation class, according to Jim Mack, vice president of government relations for the AMT. That means the company writes off 14 percent of the cost of the equipment every year for seven years. About 20 percent of purchased equipment must be depreciated over five years.
Assume, then, that a metalworking shop owner bought a new cutting machine costing $100,000 in 2002. Before passage of the new law, the company would write off $14,000 in the first year, which would lower its tax bill.
But with the new 30 percent bonus depreciation, the first-year write-off is $30,000 plus 14 percent of the remaining $70,000 purchase price, or $9,800, for a total of $39,800. That increased first-year write-off , which totals 40 percent, is the equivalent, according to Mack, of a first-year tax savings of $9,100. In year two, the total write-off reaches 57 percent (compared to normal 39 percent).
Although the business owner writes off more in the first and second years than he could in the past, and gets the associated tax savings, he won't be able to write off as much at the end of the seven-year period, and thus will pay more taxes during that back end.
The virtue is that the company has more cash than it would otherwise have at the beginning of the depreciation period. And an extra dollar in 2002 is worth more-because of the effects of inflation—than an extra dollar in 2009. But the total write-off for a $100,000 piece of equipment is still $100,000.
Though the Job Creation and Worker Assistance Act passed both the House and Senate handily, some Democrats worried that the bonus depreciation provision was like closing the barn door after the horse had escaped. Sen. Kent Conrad, D-N.D., chairman of the Senate Budget Committee, said, "I am a strong supporter of bonus depreciation, but not for three years. That encourages people to wait. That makes no sense."
Interviews with executives in the metal fabrication industry indicate that many companies are indeed in no rush to take advantage of the bonus depreciation. Gary Rauch, sales manager of Dynamic Stampings, Inc., Sussex, Wis. (www.dynamicstampings.com), said he knows about the new tax credits.
But Dynamic, a company that just underwent a change in management, won't be buying any equipment anytime soon. "Maybe sometime in the future we'll be in the buying mode," he said.
Fred Shute, owner of F.R. Shute Co. Inc., Brewerton, N.Y., makes most of his money by buying and selling used fabrication equipment. He buys machines in disrepair on speculation, fixes them up, and hopes to make some money when he sells them. Businesses like his that revolve around the ups and downs of steel mills have had a rougher time in upstate New York than elsewhere in the U.S., according to Shute.
Shute doesn't think the bonus depreciation provision will help much. He said he has no plans to go out and buy additional equipment on spec. Nor has his phone been ringing off the hook with buyers anxious to buy his reconditioned equipment.
There are some people like Paul Pruett, president of Precision Metal Fabricators, Chattanooga, Tenn., who are about to lay down some cash. He plans to buy about $200,000 worth of hydraulic press brakes in 2002 for his company, which grosses $5 to $6 million a year.
But Pruett explained he had made that decision long before Congress passed the tax bill. He doubts the bonus depreciation would have convinced him to buy equipment if he didn't really need it. On the other hand, he seemed quite pleased with the loss carryback provision because it may save him some money. "It is sounding good," he said.
The loss carryback provision, which expires at the same time the bonus depreciation provision does, allows a metal shop that lost money in 2001 or 2002 to deduct those losses from profits in tax years 1996-1998, instead of just in 1999 and 2000 as the law had read previously.
In addition, companies can carry losses back five years, and carry forward those losses five years, to offset 100 percent of their alternative minimum tax, if that is applicable. This second part of the provision expires for taxable years ending before Jan. 1, 2003. The alternative minimum tax rules previously specified that a taxpayer's NOL deduction cannot reduce the taxpayer's alternative minimum taxable income by more than 90 percent.
In essence, the loss carryback improvements allow metal fabricating companies whose cash flow is low and slow coming in to get a quick infusion of cash to tide them over, it is hoped, until the economy picks up.
While many in Congress hoped the new federal tax incentives would set off a frenzy of equipment buying, some states may brake that development. The tax codes of 25 states are tied to the federal code. Therefore, the bonus depreciation and loss carryback provisions go into effect automatically in those states.
But in 21 states, the legislatures have to ratify the changes for the purposes of state income taxes. And some states are balking. For example, Virginia already has said "no."
And, The Wall Street Journal reported that the Wisconsin state assembly has passed legislation negating the federal tax incentives. It quoted Bob Lang, director of the Wisconsin Legislative Fiscal Bureau, as saying, "We're sitting here saying we can't take this kind of revenue hit right now." Not only will businesses in Wisconsin not be able to get the benefit of the bonus depreciation, they may have to keep a separate set of records for the state.