In his December 20 piece entitled "The Tax Reform No One Is Discussing," author Scott MacDonald employs a series of dubious assumptions and misleading examples in recommending the elimination of interest deductibility from the tax code. The truth is that such a reform would be anti-growth and harmful to the U.S. economy.
MacDonald's arguments are based on an anecdotal assumption that the current tax code encourages irresponsible levels of debt, but research indicates that this is more perception than reality. Leading economists from Duke, UPenn, and Washington University collaborated on a study that found the tax code does not have a significant effect on leverage. Additionally, Nobel Laureate Merton Miller noted that there is no relationship between interest deductibility and leverage levels in businesses outside the financial services sector.
Even if one set out to equalize the treatment of debt and equity financing in the tax code, reducing or eliminating interest deductibility would not be the right way to do it. Rather than introduce a new tax on business interest expense – a normal cost of doing business – policymakers should focus on eliminating the double taxation of equity finance. Two wrongs don't make a right when it comes to taxes.
Lastly, MacDonald highlights a few failed investments without mentioning a single case in which a company has benefitted from debt financing. Of course, examples of the latter far outnumber the former. In fact, four out of five small businesses and three out of four startups rely on debt financing to help with things like meeting payroll or competing for large orders. The bottom line is that debt financing allows businesses of all sizes to reach their potential, spurring greater investment and job creation throughout the economy. And it does this while enabling business owners to retain their equity stakes.
As any investor knows, risk is a hallmark of entrepreneurship. While MacDonald attempts to paint a picture in which debt financing leads to profligate borrowing, this is simply not the case. To penalize businesses for borrowing to expand or meet their obligations would discourage investment and hinder growth – a far cry from the stated goals of tax reform.
Mac O'Brien, Spokesperson, BUILD Coalition
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