Didn’t want to highjack the current “JC” thread. This actually relates less to the general theory or economics of the JC claim and more to a very specific aspect.
On hiring people and taxes; Isn’t it true that employers don’t pay taxes on the money used to pay staff? Firms, whether LLCs or publicly traded corporations, pay taxes on their profits, not gross revenues. So, hiring staff that costs $100,000/yr will reduce the taxable income of said interest by $100k for that tax year.
You might counter that a firm won’t want to lose that potential profit by hiring those staffers. But, the added value of those employees will add more than $100,000 of value to the company’s operations. After all, if it wouldn’t, they wouldn’t be hired no matter what the tax situation.
Increasing personal income taxes on the rich is a different subject than the one discussed above. Even middle-class entrepreneurs set up LLCs or other such entities that segregate their personal finances from that of the business (which is what employs people). Even if such personal expenses as the wages of the gardener, pool boy, etc. are normally borne by one’s personal income and may not be fully tax deductible, couldn’t the owner of a company write in a “non-monetary benefit” for their position? Say, free lawn care or pool maintenance, paid by the “firm”?
I never thought about this particular claim much before, but now that I do, it doesn’t seem to make much sense. Is any of the above inaccurate? Am I missing something?
I think you pretty much have it. There are a few exceptions. In the late '70s early '80s, there was a shortage of investment capital, or the interest rate was very high, so a firm wishing to expand might not have gotten access to reasonably priced money to do so. In that case giving more money to the investor class makes sense. Recently there was a credit crunch where banks didn’t want to lend money, but that would not have been affected by tax rates at all. Today there is plenty of capital, and not enough opportunity. The absurdly low rates for T-bills (remember the prophets of doom who predicted US borrowing costs were going to soar) is driven in part by companies wanting a safe place to park their money.
I’m not a tax lawyer, but I have my own little small business to park speaking fees, and my wife has a more serious one as a freelance writer. I believe that company services for personal residences, like lawn care, would have to be declared as income on your tax form, unless you lived in corporate headquarters. (and maybe even then.) Whether you’d get caught is another matter.
But someone who knows more should answer.
Is supposed to be declared and is actually declared are different things. There is very little enforcement of this kind of tax stipulation and most people who have their own businesses dip deeply into any personally usable resources for their own benefit.
I refuse to testify further on the grounds that it might tend to incriminate my wife.
Actually, before we started doing taxes ourselves, we used an accountant and went over the kinds of deductions which are legit from those which aren’t. So far, so good. She has a home office which would pass muster any day of the week - we don’t deduct it because we learned of the tax implications when you sell our house when we sold our house in New Jersey. It wouldn’t have been worth it, especially considering our increase in value.
You are correct, salaries, etc. are expenses, which reduce taxable income, they would not be taxed themselves.
However, there is a real tax implication. Let’s take your hired staff that costs $100K and assume additional revenue of $120K as a result of the expansion. If taxes are “very high” then the $20k additional (before tax) profit is cut down quite a bit. So, your upside of hiring someone is limited, because the tax man takes so much of your new profit. If it doesn’t work out and the new guy is a net loss, your downside is buffered by the fact that your tax bill goes down.
You’re still putting yourself at risk, though. If you wind up in the red, it’s not like the government is going to write you a big negative tax check when you lose money this year, you’re just out the money.
I don’t believe our taxes are “very high”, but the logic is sound. Companies invest in order to increase after tax income, so taxes do matter.
Your basic premise is more or less correct, in that wages/salaries are expenses to the employer and therefore subtracted from gross profit (sales-cost of goods) along with other expenses. That isn’t the whole story, though–paying wages/salaries incurs a tax burden as well. Then there are the largely unrecoverable costs associated with having employees such as training, workplace safety, the employer’s share of an employee health plan, etc. etc. etc. One estimation I’ve heard is that when you total everything up, staff costs twice the amount you actually pay them. I don’t know how accurate this is, but if it’s anything close to the truth, it could go a long way toward explaining companies’ current reluctance to hire: employees are an investment, the value of which is hard to recover.
The tactic you mention of representing personal expenses is tried and true, but it a) doesn’t provide all that much benefit and b) is like waving a cape in front of the IRS bull. Income from sole proprietorships and LLCs is closed into the personal income of the owner(s) anyway, so moving a personal expense to your business merely saves you the tax liability on that incremental portion of income. The savings are small, unless you’re trying to charge re-roofing your house to your sandwich shop business or something like that. The trick is getting away with it. The IRS (as well as the federal government in general) dislikes small businesses. One of the major problems many small businesses face is when the owner works out of his own home. Expensing a portion of the rent and utilities to the business is a major headache; the IRS’s default position is that you’re cheating. More than once, I’ve had to draw a map of my house and submit a time log (when was I actually working there?) just to get the deduction validated.
As far as “non-cash benefits” go, such as getting free lawn care because your business is paying the lawn guy, the IRS will consider those benefits taxable income to you at fair market value. If audited, you will be assessed personally for the taxes on that income and the expense deduction for the business may be disallowed as well. Plus a substantial fine and the guarantee that you will be audited every year until 2087.
This has always been true, more or less. I mean, it’s not specific to the current economic environment. All those costs, Salary + GEB* + Overhead are equally considered expenses and reduce the profit that gets taxed. It’s just that when you add a person, you add lots of expenses besides salary.
In general, adding employees without a resulting increase in profits devalues a company. The offsets don’t matter much, breaking even is not the goal, increasing profits/costs is.
I can testify from personal experience that this was true in 1986. We managed by what we called “loaded rate” which was salary plus benefits, and was constant for a job classification, though salaries might differ greatly. One of the reasons for the big push to using long term contractors back then (before the Microsoft decision) was that got treated differently, so you could afford more.
Actually Im pretty sure there are provisions in the tax code that allow for companies to spread out their losses over past and future periods of profit in order to take advantage of the tax implications.
I know one reason small businesses don’t like to hire beyond a certain small number (maybe 3 people or 4) is because when you hit that amount of people at least in california you then are required to have health insurance, report to osha ect, all sorts of headaches. This is a place where divorcing healthcare from employers is a good idea as that’s the main cost jump, other things to do are to simply not allow for the 1-3 employee exception which takes away the motivation to keep staff numbers small at least in that regard.
If you’re referring to loss carry-forwards and income averaging, the IRS pretty much crushed that like a bug in the 1980s. Lose 500 grand in Year 1 and you get to carry forward to Year 2–$3,000. Eat the rest.
Of course, the rules vary according to what kind of business entity you’re talking about, but in general, for the IRS, each year exists pretty much by itself. Lose a million, then make a million, you still owe taxes on that million even though you haven’t actually made a dime.
The IRS’s main argument to justify this was that businesses, having shown a profit in one year, would become reckless the next year because any losses would be offset anyway. And we don’t want businesses to do foolish things, now do we?
fraid i don’t think your info is correct, though the scenario you illustrated certainly has it’s merits for not wanting to encourage this sort of thing too much.
This is very true, but you can’t think of your workers as having uniform productivity. Some are highly productive, and some are what economists call “ZMP”, or Zero Marginal Productivity. Most large companies have maybe 10% of their workforce in the this category, or near it. They’re not costing the company much, but they’re not contributing either. They’re kept around because layoffs are hard on morale, because managers don’t like to fire people, and in the hope that through training or close management they can be turned into contributing employees.
Now, the government adds a new tax or a new requirement on the business that raises the per-employee cost. Suddenly the ZMP workers are a financial drain, and the marginally positive workers are now ZMP or negative. The result is layoffs. And if you’re doing layoffs anyway, it’s a good time to get rid of the ZMP people too, since you’re already taking the morale/hr hit with a round of layoffs.
The other major problem with taxation and employer mandates is that they often have a threshold of size for compliance. For example, the new health care act exempts workers from fines if the company has less than 50 employees. That’s a pretty big incentive to keep your company size below 50. I believe the Americans with Disabilities Act has a bunch of mandates that kick in once a company goes over 15 employees. So if you’re a small company with 14 employees, that 15th one is going to have to bring spectacular productivity gains to make hiring him worth the hassle of having to install handicapped washroom facilities for workers, re-design the workspace to meet ergonomic requirements, etc.
These costs are not paid by the company. They are passed down to the workers and/or customers. But they do limit growth.
The $3,000 limit is for individual losses. Even then, you do not eat the rest - you can carry unused losses forward to future years. So you can offset the $500k loss against other income at $3k per year and use the entire loss in only 167 years.
Welcome back, Sam. What you say is very true, and one sign of a good company is the ability to hire productive employees. As for laying off people hurting morale, workers know who ZMP people are, and I’ve found that the perception that managers aren’t doing anything about them hurts morale probably more.
Several companies I’ve been at have a requirement that 5 - 10% of people get graded as unsatisfactory each performance period, and have to improve or leave. Though they are smart enough not to do this after RIFs where it is easy to get rid of this batch.
Of course there are some ZMP managers who can’t tell a ZMP employee from a hole in the ground.
All very true. And sometimes employees are ZMP simply because they have a ZMP manager for a boss, and he can’t figure out how to make his employees productive.
You are mixing some things up. Here’s the part you got right (kinda sorta): if an individual has a capital loss for a year in excess of their capital gains for that year, then the individual can only use $3,000 of that capital loss against ordinary income. But they can carry the capital loss forward and use it against future capital gains and $3,000 per year of ordinary income for something like 20 years (maybe 10 years–but a long time).
A business that has a loss from its business (i.e., an ordinary loss, not a capital loss) can carry it back for 2 years or forward for 20 years (and I’m more sure about the 20 here than I was above).
Finally, your last paragraph is just ludicrous. A deductible loss is still a loss in the first place. Only a lunatic loses $100 just so they can decrease their tax bill by $35.
As a contractor, I brought in 3.x times my salary in new work each year. (So was probably like double my costs). As is stated below, people who brought in no new work were only kept as long as there was work for them to do. In my field, the target utilization rate was at least 80% (so 80% billable hours and 20% selling, training, etc). If they couldn’t scramble a project to bill against, then they were let go by end of quarter.
A local business that does custom manufacture bids/quotes jobs with the manhours built in. When they get the job, they hire the people to do the work. When there are no jobs, they let people go. That is the sole deciding factor on when they have employees on payroll. They would never have people sitting around waiting for the next job to start.
If done as you describe it, this would be income to the property owner. Now, the manufacturing business above will task workers to do the property maintenance for the family property any time that they’ve hit a day of ‘down time’ (say the general contractor hit a snag and they can’t deliver on the expected date). And it isn’t uncommon for auto shops in this area to use mechanics to do personal lawn/vehicle maintenance when they’re not working on an engine (mechanics are only paid when actually working on an engine, so it’s considered ‘killing time’ when there aren’t enough cars in the shop.)
Another thing that is common in this area is to make vehicles total tax write-offs. Apparently if you put a company logo on the vehicle (and it can be very small and non-obvious), that makes it a write off and all gas, oil, tires, maintenance are also written off. The only catch is that you need to keep a licensed “clunker” car as your “personal car” even though you drive the company car 99.99% of the time so that you can check “yes” to the question “Do you have a personal car to drive beside this vehicle?”
The only staff I could imagine being hired when a demand (production or regulatory) was not driving it would be sales staff. They are often paid a very low base wage + commission on the work brought in. Usually, such positions are tied to performance measures and if they don’t bring in customers, they are let go for missing quotas.
I can’t think of a single time I’ve every heard a real business owner talk about hiring or firing staff in reaction to a tax rate.
Sorry, I have to correct a statement made above. I have talked to one business owner that claimed he would hire additional people if ALL of his taxes were set to zero. But, this person has been going into the hole to the tune of 3/4 of a million dollars / year since 2007 because he isn’t selling enough products to support the 9 employees that he is currently paying to sit around offices doing next to nothing.
BUT, since he is incorporated and did claim that he’d hire additional staff if the “big bad government” would just get out of his way, then I made a mis-statement above.
