Democratic tax reform seen mixed for business

CHICAGO (Reuters) - Hillary Clinton's surprise win in Tuesday's New Hampshire Democratic primary underscores how much that party's battle for this year's U.S. presidential election remains a wide-open affair.

But if voters wind up electing a Democrat to the White House in November and returning the current Democratic Congress to power, experts say the party's likely approach to the important issue of corporate taxation is already clear -- whether its standard-bearer turns out to be Clinton, Illinois Sen. Barack Obama or former North Carolina Sen. John Edwards.

They say the Tax Reduction and Reform Act of 2007, a bill introduced late last year by a powerful senior Democrat, is a potential blueprint for the party's corporate tax reform plans -- and provides clues about possible winners and losers in business if the party wins control of both the White House and Congress.

Marc Gerson, attorney at Miller & Chevalier, a Washington, D.C. law firm with a large tax practice, calls the bill "a potential reference point for the future tax agenda" under the Democrats -- though he says it's something that stands little chance of being enacted as long as Republican President George Bush remains in power.

Sponsored by Rep. Charles Rangel, a New York Democrat who chairs the House Ways and Means Committee, the bill contains a number of fundamental changes to tax policies.

Gerson, who served as majority tax counsel to Ways and Means during the last Congress, says the bill represents the biggest proposed overhaul of the U.S. tax system since Ronald Reagan's Tax Reform Act of 1986.

Rangel seems to agree, and has called his bill "the mother of all tax reforms."

The biggest item in Rangel's bill is a proposal to cut the top corporate marginal tax rate from 35 to 30.5 percent -- a change that would save corporations an estimated $363.8 billion over 10 years, he said.

That would be good news for the many U.S. companies that find themselves being taxed at the highest rate -- though it would still leave the top rate above the OECD average of 29.2 percent, according to The Tax Foundation, a Washington-based research group that favors lower taxes.

But to offset the tax cut, Rangel also proposes a host of changes that would effectively raise taxes on corporations -- especially companies with U.S. plants, U.S.-based multinational corporations and those businesses that carry large inventories on their books.

The changes include:

-- Repealing the Section 199 domestic production activities deduction, which was designed to encourage U.S. manufacturers to keep jobs in country.

-- Requiring U.S.-based multinational corporations to defer deductions on their U.S. taxes associated with certain foreign income, increasing the cost of maintaining or expanding foreign operations.

CHANGING LIFO

Rangel has also suggested changing the way companies account for inventories.

Under the current system, known as last in, first out, or LIFO, companies keep their oldest, cheapest inventory on their books.

Rangel proposes changing that, raising the value of inventories on business balance sheets -- and the taxes companies pay on their inventory "reserves" as a result of the change, as well as the taxes companies will pay on their future inventory sales.

Thomas Duesterberg, the president and CEO of the Manufacturers Alliance/MAPI, a business research group, said the inventory change would be especially hard on automobile companies, which carry a lot of inventory, as well as construction equipment makers and the steel companies that supply them.

Gerson says it is impossible to say how an individual U.S. business would be affected if the Rangel proposals wound up becoming law.

"Given how different businesses are structured and operate, every company has to look at the bill and ask itself, 'If we get the rate down to 30.5 percent, how would all these different revenue raisers affect us?'" he said.

"If they don't carry inventory, they would not be affected by the LIFO inventory change. By contrast, if they have U.S. manufacturing operations, they would be affected by the repeal of the Section 199 deduction. It's a very company-by-company analysis."

But Duesterberg, who chairs a trade policy advisory group for Republican presidential hopeful, and former Massachusetts Gov. Mitt Romney, is more critical, saying the proposals are "on net, a negative for the manufacturing sector."

(Editing by Tim Dobbyn)