House Committee Votes to Increase Deficit by Nearly $300 Billion with “Bonus” Depreciation

Once again, a Congress that cannot enact a $10 billion extension of emergency unemployment benefits is headed toward increasing the deficit by hundreds of billions of dollars to benefit corporations. 

Republicans on the House Ways and Means Committee voted today to make permanent “bonus” depreciation, the most costly provision within the “tax extenders.” Bonus depreciation is a significant expansion of existing breaks for business investment. The Congressional Research Service has reviewed quantitative analyses of the tax break and found that, “… accelerated depreciation in general is a relatively ineffective tool for stimulating the economy.”

This conclusion is not surprising. What businesses need are customers. No business is going to invest to expand operations if there are no customers and thus no way of profiting from that expansion. A tax cut for investment cannot change that logic. The most likely effect of such tax cuts is that they subsidize investment that would have occurred anyway even without a tax break.

Bonus depreciation also departs from general rules on which the tax system is built. Companies are allowed to deduct from their taxable income business expenses so only net profit is taxed. Businesses can also deduct costs of purchases of machinery, software, buildings and so forth.  Since these capital investments don’t lose value right away, these deductions are taken over time. In other words, capital expenses (expenditures to acquire assets that generate income over a long period of time) usually must be deducted over a number of years to reflect their ongoing usefulness.

In most cases firms would rather deduct capital expenses right away rather than delaying those deductions, because of the time value of money. For example, inflation will erode the value of $100 over time, but $100 invested now at a 7 percent return will grow to $200 in ten years.

Bonus depreciation is a temporary expansion of existing breaks that allow businesses to deduct these costs more quickly than is warranted by the equipment’s loss of value or any other economic rationale.

Of course, this tax break makes even less sense if it is permanent. It was enacted to address a recession early in the Bush administration and then enacted again to address the much more severe recession at the end of the Bush administration. The theory behind it had been that firms would be encouraged to invest and expand right away, counteracting the immediate impacts of the recession, because the break would be available only for a limited time. Making the break permanent obviously destroys even this argument for bonus depreciation.