E&Y report: Proposed limits to deductibility of interest to finance corporate rate reduction will impede U.S. investment
Judge: “E&Y’s report is the first to quantify the substantial additional cost that businesses will incur if corporate interest deductibility is limited.”
Washington, D.C., May 8, 2012 – The PEGCC released an Ernst & Young LLP report today that finds limiting the deductibility of corporate interest expenses to pay for a revenue neutral reduction in the corporate income tax rate would adversely affect investment and potentially reduce growth. The study, commissioned by the PEGCC and developed by Ernst & Young LLP, is timely, as some corporate tax reform plans, including President Obama’s Framework for Business Tax Reform and the Wyden-Coats Bipartisan Tax Fairness and Simplification Act, have suggested that the deductibility of interest expenses should be limited to help finance lower corporate tax rates. It is the first study to calculate the negative impact of limiting interest deductibility to finance corporate tax rate reductions.
The report finds that an across-the-board limitation on the deductibility of corporate interest would increase companies’ cost of investment by significantly more than the reduction in the cost of investment achieved through a corresponding reduction in corporate income tax rates. The higher cost of investment from limiting interest deductibility, even with a revenue neutral reduction in corporate tax rates, would hamper U.S. investment. Small and mid-sized companies poised for growth are often the most likely to use debt to fund expansions.
“Ernst & Young LLP’s report is the first to quantify the substantial additional cost that businesses will incur if corporate interest deductibility is limited. Limiting interest deductibility will significantly increase the marginal effective tax rate on new investment and could well stifle growth in the United States, undermining a stated goal of corporate tax reform,” said Steve Judge, President & CEO of the Private Equity Growth Capital Council. “There is a lot of confusion about the use of debt financing for businesses, but the reality is that debt is an essential part of a typical company’s capital structure. It is used to finance fundamental business activities, like meeting payroll, buying raw materials or making critical capital investments,” Judge concluded.
The report concludes that reducing the amount of interest eligible for deduction would make the U.S. less competitive, finding the higher overall cost of investment in the United States would make our country a less attractive place to invest. Over time, companies would access less capital to expand and modernize their businesses.
“Rather than making the United States a more attractive place to invest by lowering the marginal effective tax rates for new investment, a 1.5 percentage point reduction in the corporate income tax rate financed by limiting the deductibility of interest expenses would increase the marginal effective tax rate on new corporate investment from 31.0 percent to 33.1 percent – a 6.7 percent increase in the marginal effective tax rate,” the Ernst & Young LLP report finds. The study was authored by Drs. Robert Carroll and Thomas Neubig of the Quantitative Economics and Statistics Practice (QUEST) of Ernst & Young LLP on behalf of the Private Equity Growth Capital Council.
