A Big Loan With a Slim Tax Bill

The New York Times Co., like many print-oriented news operations, is having trouble figuring out how to make a decent profit and generate the capital it needs. But its tax strategy is operating as well as ever.

The latest example involves the company's recent $250 million borrowing from two companies controlled by Mexican zillionaire Carlos Slim. On the surface, it looks like the company would be able to deduct only about half the $35 million of annual interest on the loans, which carry a credit-card-like stated rate of 14.053 percent a year and an effective rate of more than 15 percent. In reality, the company says, it gets to deduct it all.

Welcome to the world of HYDO, a tax-geeky term pronounced HI-dough, in the likely event you've never heard of it. Children, as we know, play a game called "Hide and Go Seek." But the Times Co. is playing a higher-stakes game with the Internal Revenue Service. Call it "HYDO Go Seek." (You can groan now.)

Here's the deal. HYDO stands for "high-yield discount obligation." In other words, a high-yield (known to us English-major types as "junk") security issued at a substantial discount to its face value, which can cause tax problems if the issuer isn't careful.

The $250 million of Slim notes yielded the company $250 million -- but as part of the deal the Slim outfits got a fat slug of stock-purchase rights, known as warrants, that the Times Co. valued at $21,147,000 in a Securities and Exchange Commission filing.

For tax purposes, it's as if the company got a bit less than $229 million for issuing $250 million of notes, making them a discount obligation. That makes the effective interest cost to the Times 15.3 percent -- the $35.1 million of annual interest (14.053 percent of $250 million) divided by $228,853,000 ($250 million less the value of the warrants).

The deal gives Times Co. the right to pay 3 percent of its 14.053 percent interest bill by giving its lenders new securities rather than cash. That by itself would normally make the issue a HYDO, according to tax expert Robert Willens.

There's a limit on HYDO tax deductions that Willens says is designed to make sure that companies issuing high-yield securities can't deduct more in interest than they pay in cash. That was once a common tax dodge.

Under those rules, Willens estimates that the Times Co. would be able to deduct only slightly more than half its annual interest, call it $18 million. That means that $17 million of interest -- worth about $6.8 million of tax savings a year to the Times Co., assuming a federal, state and local income tax rate of 40 percent -- would normally not be deductible.

But guess what? The company says that in 5 1/2 years, it will fork over enough cash to cover non-cash interest costs that it accrued for tax purposes. For amazingly complicated reasons, this payment would get the company off the HYDO hook and makes all the interest on these borrowings tax deductible.

This is the second interesting piece of tax work I've seen out of Times Co. in recent years. The first was in 2005, when it managed to treat its $410 million acquisition of About.com as a tax-deductible asset purchase, saving an indicated $160 million over 15 years.

Back then, I jabbed the company for minimizing its own taxes while the New York Times editorial page was campaigning against tax loopholes. But things have gotten considerably grimmer for the company the past four years, given its vaporized stock price, sharp dividend cut, and firings and buyouts. The company's survival as a high-grade, independent journalistic entity -- something I value -- is no longer assured.

So I won't carry on about Times Co.'s tax game here, which Willens says is strictly routine. "It's the common way around the HYDO problem," he told me. But I thought "HYDO Go Seek" was something that you ought to know about. And now, you do.

Allan Sloan is Fortune magazine's senior editor at large. His e-mail address is asloan@fortunemail.com.