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Dec 14

Bonus depreciation no bonus, says one expert

Posted by Stephen Taub in TaxdepreciationCredit suisseCashcapital expenditurescapital equipment outlayscapexbonus depreciation

Stephen Taub

While much of the focus of the pending tax cut package seems to be on the reductions and breaks for individuals, there are some goodies tucked in for corporations as well.

They include a two-year extension of the research and development credit, which covers employment costs of employees involved in research, and $22 billion for accelerated depreciation, which allows companies to write off all of their costs of assets placed in service after September 8, 2010 and through December 31, 2011, in one year. This will be followed by 50 percent bonus depreciation for assets purchased during 2012.

The 50 percent bonus depreciation has already been the rule for the past three years.

The idea behind these breaks is to encourage companies to spend their huge sums of cash on their balance sheets. Companies would be able to front-load depreciation expense for tax purposes on virtually all assets purchased, Credit Suisse Securities points out in a report to clients. This would result in lower taxable income, and therefore a lower tax bill in the first year the assets are put into service, thus boosting cash flow.

A nice stimulus plan that should have been implemented when President Obama first came into office.

Credit Suisse says it estimates the discount works out to about 2 percent of the purchase price for assets with a three-year life and nearly 14 percent for assets with a 20 year life, assuming a 7 percent discount rate.

The question is whether these types of discounts are enough to stimulate additional demand. Will it push Corporate America to put some of its "record" cash pile to work?

Credit Suisse says no.

It has published a detailed analysis of the 100 percent bonus depreciation. While it acknowledges that bonus depreciation is an attempt to stimulate the US economy, the investment bank tells clients whether it actually works is another issue. "The question is whether those discounts are enough to stimulate additional demand and push companies to put their "record" cash piles to work," it asserts in its report.

Credit Suisse concedes the depreciation break might pull forward some capital spending into 2011. But, it stresses this is not easy to do for the long lived assets that stand to benefit the most. "Also if the cash is parked overseas the discount from Uncle Sam may not be enough to offset the tax hit from repatriating the cash," it adds.


Its over-riding point: Just because an asset is on sale doesn't necessarily mean companies will run out and start buying them.

In fact, after running the data, Credit Suisse said that even at the high end of the range it finds just five companies in the S&P 500 where the present value benefit of bonus depreciation is more than 4 percent of market capitalization. They are Chesapeake Energy, Ryder System, El Paso, Supervalu and Edison International.
"So, don't be fooled," warns Credit Suisse. "The real benefits from bonus depreciation are not as significant as the initial boost to cash flow makes it out to be."

The bank does concede it could be wrong. It says the savings from bonus depreciation may be greater than it highlights if the actual capex spend is more than it assumed, a real possibility since it is only using an estimate of one year of capex while the tax proposal covers 15 months of purchases.

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