In mid-December, Republican legislators agreed to the Tax Cuts and Jobs Act, the largest modern overhaul to the United States tax code in over 30 years. The final details have been voted on by Congress and signed into effect by the President.
On the corporate side of tax reform, many of these changes have been made to incentivize domestic businesses to increase capital spending and invest in long-term projects. The largest benefits of this tax plan will go to high-income corporations, which will now pay a maximum 21% tax rate after originally being subject to rates ranging up to 35%. The bill will also allow businesses operating as pass-through entities, which refer to a form of business incorporation method that allows owners to classify business income as their own wages and pay taxes on those wages at their own individual rate, to deduct up to 20% of their income. Pass-through businesses make up over 90% of all business establishments in the United States, extending from entities such as real estate investment firms to family-owned retail stores.
With many of the changes having gone into effect on January 1, 2018, businesses will have much of the current year to make key strategic decisions on how to best reduce their tax costs. Providers of tax preparation software and tax accounting services will be in high demand to combat the complexity of the new tax code. ProcurementIQ has identified a few additional industries that are likely to see the biggest impact from the bill. While many upstream businesses will benefit from higher demand, procurement departments will experience higher prices on several key products and services.
Construction & Real Estate
In the new bill, businesses are allowed to fully write off the cost of equipment in the year of purchase instead of having to adhere to a longer depreciation schedule. This stipulation will be in effect until Jan 1, 2023, and will incentivize businesses to leverage debt to invest in long-term projects over this period. As such, one of the major winners of tax reform are construction companies. The write-off, combined with other economic factors such as added incentives to complete construction and public housing projects, will increase demand for nonresidential construction activity in the next five years. While businesses procuring construction and construction-related services will benefit from tax breaks, the cost of those services are expected to rise as demand increases. Construction businesses can greatly benefit from this window of easier debt absorption. As more businesses look to plan construction projects that are eligible for tax breaks, one effect of this increased activity is a rise in demand for construction project management services, which will likely lead to an estimated 1.4% annual increase in service rates.
Real estate developers have long benefited from a tax break called private activity bonds, which allows local and state businesses to finance infrastructure projects using local government resources. The new tax reform act will now further savings by allowing businesses to deduct interest accrued on these bonds from their taxes. If real estate developers expand construction activity, as the federal government is incentivizing, buyers of services to build qualifying infrastructure projects, such as power line construction can expect to pay an estimated 1.4% annually over the next three years in higher rates due to increased demand for these services.
Although the federal reserve will raise interest rates to 1.5% and slightly raise the cost of debt, tax savings from an accelerated depreciation schedule will more than likely offset rising interest costs. As such, more buyers of manufacturing and construction equipment will seek financing options to begin long-term projects. In conjunction with further increases of the federal funds rate, prices for equipment financing services will rise at an estimated annualized rate of 1.5% in the next three years as a response to the expected influx of capital borrowing. As a result, buyers should consider investing in construction and construction-related services soon to obtain the maximum tax and price savings.
Oil & Gas Drilling
The tax bill will also allow for an oil and gas program to be established in a previously closed 1.5-million acre area of the Alaskan Arctic National Wildlife Refuge (ANWR). The US Geological Survey estimates there are at least 4.3 billion barrels of recoverable oil in the ANWR. However, before drilling can occur, developers will be subject to heavy scrutiny and potential lawsuits due to the controversy of this particular tax bill provision.
As such, those looking to conduct drilling activity in the ANWR can expect an increase in rates for oil and gas land services and land surveying services. These services are expected to rise an estimated annualized rate of 1.7% and 2.3% respectively in the next three years. In addition, due to strong regulatory pressure, these and similar services would be almost mandatory to procure before any drilling can be conducted in the area.
While there is a lot of uncertainty as to when any drilling will actually take place, those interested in conducting projects will face significant red tape before they can profit from any investment in this region. Consequently, businesses can expect significantly higher demand and service rates for finding and preparing this highly sought-after land for energy development. Furthermore, rates for land inspection and related services are likely to be even higher for work done in Alaska due to these significant oil prospects that are being opened up in the state
Farming & Agriculture Businesses
Businesses have been able to apply a net operating loss from one year to reduce their tax liability in other years. The previous tax code allowed for both Net Operating Loss (NOL) carrybacks and carryforwards, a tax provision that allows certain businesses to apply losses incurred in one year toward their tax expenses in previous years. However, new legislation will repeal all existing NOL carryback rules. In turn, companies that made transactions with the expectation to carry back future losses will no longer be able to do so. With the expanded incentives for capital expenditures, this measure will prevent certain businesses from taking advantage of major purchases to receive refunds on already paid taxes.
However, businesses can still take advantage of future tax savings by being allowed to indefinitely carry forward deductions, instead of complying with the 20-year timeline that the previous tax code allows. Expanded NOL carryforward provisions will expand the ability of businesses who take on heavy debt, such as farmers that require significant up-front capital investment.
Businesses that operate in the agricultural or construction sectors, for example, will likely be purchasing more equipment with the expansion in place. In turn, greater demand will drive up the price for machinery such as bulldozers and agricultural tractors.
ProcurementIQ expects prices for these products to increase in the next three years at respective annualized rates of 2.6% and 1.8%. With such growth expected for equipment prices, businesses may want to look into procuring these resources sooner rather than later to best utilize the immediate depreciation provision without paying a significantly higher price.
Active Tax Planning
Regardless of which sector or industry a business operates in, they can expect significant changes to their tax planning. The elimination of former tax credits, market- and industry-specific changes, or modifications to tax rates for individuals may further change a business’s strategic decisions. Although many businesses may benefit from changes to the tax codes, certain products and services may become more expensive in response to tax legislation. To best capitalize on the available tax savings, businesses should take active steps to procure commonly sourced items before tax changes drive up rates further.
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