Automobiles, transportation and mining--will pay no tax on income from new investments this year and will receive what amounts to a tax subsidy to use against income from past investments under the 1981 tax bill, according to studies by the Treasury Department and the Council of Economic Advisers.
The studies, which were contained in the Economic Report of the President, appear to at least partially confirm two major criticisms of the 1981 tax bill: that it went beyond eliminating the corporate tax on new investments and created negative tax rates on new investments, and that it increased the distortion of tax rates between major industries.
According to the studies:
* The tax bill last year gave corporations a negative tax rate on income from construction machinery, industrial equipment and vehicles ranging from minus 14 percent to minus 18 percent. By 1986, the negative tax rate on construction machinery will fall to minus 82 percent.
* The tax bill actually increases the distortion of tax rates on income from major capital investments. In 1979, the rates ranged from plus 34 percent on machinery to plus 56 percent on industrial buildings, a difference of 22 percent. In 1986, the rate on machinery will be minus 82 percent, while on buildings it will be plus 37 percent, a spread of 119 percent.
Economists contend these kinds of differences distort investment patterns and reduce productivity, a claim the economic report partially backs when it states: "These differential rates of taxation at the industry level will probably lead to relatively more investment in industries with lower tax rates."
If the rate of taxation varies significantly from industry to industry, the after-tax rate of return will become a major factor in the decision making of investors, instead of basing judgments on estimates of an industry's potential growth.
Citing old law, which is less distorted that the 1981 bill, the Joint Committee on Taxation said the different rates of taxation are "contributing to an inefficient mix of investment" that is preventing the potential improvement in productivity from "being fully realized."
Although the corporate rate is technically 46 percent, it can be reduced to below zero--a negative tax rate--when the credits and depreciation write-offs from an investment in plant or equipment more than equal the taxes on the income produced by the investment.
In fact, the effective rate has been about 25 percent to 30 percent. But, the 10 percent investment tax credit combined with the highly accelerated depreciation write-offs contained in the legislation, not only reduces the rate on income from these investments to zero, but a company will receive what amounts to a tax subsidy.
Here's how it would work. ABC Inc., is deciding whether to buy new equipment. In order to be economically worthwhile, it will have to produce a net after-tax rate of return of 4 percent after calculating for inflation, or $4 from a $100 investment, the rate most commonly used in all the studies.
Under old law, with a positive tax rate of 34 percent on income from construction machinery, ABC would have to be confident of a before-tax rate of return 6.1 percent, or $6.10 on each $100 dollars invested, in order to pay the taxes owed on the profits and make the desired after-tax $4.
With the new tax breaks, however, the same firm had a negative tax rate of 15 percent in 1981, a rate that will drop to minus 82 percent in 1986. In order to make the $4 after-tax profit, the firm would only have to make $3.40 before taxes last year and only $2.20 before taxes in 1986.
The difference between these two figures represents the tax subsidy, or the actual "negative" income tax rate.
A profitable firm would realize the subsidy by reducing its tax liability on income from old investments made before the 1981 tax bill. An unprofitable firm would get the subsidy by selling its tax breaks under the "leasing" provisions of the legislation.
"If you ask whether the combination of the investment tax credit and the new depreciation schedule creates some curious results, the answer is yes," a spokesman for the Council of Economic Advisers said. He defended the legislation, however, on the grounds that it achieves the goal of "reducing taxation of capital" and, according to administration belief, will then act as "a spur to investment."
The tax bill would not completely eliminate the corporate tax because much corporate income comes from old investments and other sources that were not covered by the legislation.
According to the Congressional Budget Office, corporate taxes will drop by a total of $127 billion through 1986, and the share of federal revenues produced from the tax will drop from 10 percent last year to 7.8 percent in 1986.
In discussing possible tax-induced shifts in investment patterns, the studies compared the tax rates on new investments under the old and new laws for 13 major industries. The findings were:
Agriculture went from an effective tax rate of 32.7 percent to 16.6 in 1982; mining from 28.4 percent to minus 3.4; primary metals from 34 to 7.5 percent; machinery and instruments from 38.2 to 18.6; motor vehicles from 25.8 to minus 11.3 percent; food from 44.1 to 20.8 percent; chemicals from 28.8 to 8.6 percent; petroleum refining from 35 to 1.1 percent; transporation from 31 to minus 2.9 percent; utilities from 43.2 to 30.6 percent; communications from 39.8 to 14.1 percent, and services and trade from 53.2 to 37.1 percent.