With the election over, President Obama faces an unprecedented series of fiscal challenges, some of which will be played out even before his Jan. 20, 2013 inauguration. The resolution of these challenges will affect every industry, but are especially important to the lodging industry, which is very sensitive to the global marketplace at a time when the United States has yet to regain the share of the travel market that it had prior to 2001.
The first set of challenges arrive during Congress’s lame duck session after the elections in which it will consider proposals that delay tax increases and automatic cuts in federal spending that otherwise take effect in January. Included in these items, known collectively as the “fiscal cliff,” are the return to the individual tax rates that existed prior to 2001, the business tax extenders that expired at the end of 2011, including 15 year depreciation for leasehold improvements, the work opportunity credit, and several foreign tax provisions affecting the ability of global companies to defer the taxation of overseas profits. Unless Congress acts, reimbursement rates under Medicare will drop 30 percent, long term unemployment benefits will stop, the alternative minimum tax will inadvertently apply to 30 million middle class households, and federal spending will be subject to an across the board cut of $110 billion.
The Republican leaders of Congress decided when they took office in January of 2011 to deal with these issues by moving forward with tax and spending reforms that would set the nation on a different fiscal course. However, as the Congressional session nears its end none of these major reforms have been enacted and Congress faces the difficult task of once again having to temporarily extend numerous tax provisions or face the economic consequences of failing to do so, which some economists believe could curtail economic growth by as much as 2 percent. The total cost of delaying all of the items on the fiscal cliff for one year is estimated at $607 billion, which in all likelihood, would simply be added to the national debt.
It is very unlikely given public concern over the national debt that Congress will agree to extend these provisions absent a hard promise to enact reforms in 2013.
There is general agreement that the core features of corporate tax reform should be a reduction in the corporate tax rate as a way to make U.S. companies more competitive overseas. This rate, currently at 35 percent, is the highest among the 34 member nations of the Organization for Economic Co-operation and Development, and is considered by many economists a disincentive to foreign investment.
At a time in which credit remains tight in the United States, many global companies believe that the U.S. should correct another disparity in its tax system—the impediments against bringing foreign profits back into the U.S. While many foreign nations have moved away from this system, the U.S. continues to tax corporations on their worldwide incomes, meaning that overseas earnings are taxed by foreign jurisdictions as well as by the United States. Many U.S. companies defer the taxation of foreign earnings by organizing controlled foreign corporations abroad that are not subject to U.S. tax unless, and until, those earnings are remitted to their U.S. affiliates in the form of dividends, in which case they are subject to federal tax at 35 percent. It is estimated that well in excess of $1 trillion is being held overseas by U.S. global companies, and while those funds could do a great deal to support domestic investment, they will not come back in high amounts until the tax rates are lowered.
For this reason, the discussion of corporate tax reform focuses on lowering the rates generally, ending in some form the worldwide system of taxation, and allowing foreign profits to come back into the U.S. at beneficial rates that compete with the rates now charged by America’s most important trading partners.
Not surprisingly, the system used by Congress to measure the impact of tax law changes, including a reduction in rates, will have the effect of reducing revenues and enlarging the deficit. As a result, corporate tax reform plans all assume that there will be a cost to rate reduction in the form of the elimination of tax preferences. In effect, tax reform is likely to involve a trade-off between a reduction in the rate and the elimination of tax preferences as a means of offsetting revenue lost through the rate reduction. The impact of this trade-off is likely to be different for different companies, and across industries.
As the debate over tax reform intensifies next year it is likely, as was the case this year, that a number of well-developed and detailed proposals will be at the center of the debate, and there will be a variety of options for the lodging industry to consider.
While the details will matter greatly, from the lodging industry perspective it may be equally important for tax reform to begin with a core value, namely that our national policy in every area, including taxation, should be designed to recapture America’s share of the global travel market. To achieve this, we need policies that make it easier and faster for foreign travelers to apply for and receive visas, or to expand the visa waiver program, and that encourage the construction of an increasingly attractive and efficient travel infrastructure.
Our tax laws should complement travel policies that attract foreign visitors by making it easier for American lodging companies to compete overseas and expand their investments in the U.S., both through more flexible capital markets as well as tax laws to encourage global companies to bring profits back into the United States. If these changes are done together, the U.S. travel market could be on its way to exceeding the levels we enjoyed more than a decade ago.
Evan Migdail is a partner at multi-national law firm DLA Piper. He represents corporations, associations, tax-exempt organizations, and governments before Congress, the Administration, and federal agencies.