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Ending Tax Debt Bias Favors Cash-Rich Companies Led by Chevron

June 9, 2011 — Bloomberg Government — By Richard Rubin   Bookmark and Share

(Bloomberg) — Attempts to reduce the bias in the tax code toward debt financing could help companies with track records of generating cash, such as Chevron Corp., and hurt companies with relatively higher debt loads, such as Verizon Communications Inc., according to a Bloomberg Government study.

The study, released today, reviews five alternatives for changing the tax treatment of corporate interest and dividends that Congress may consider as part of an overhaul of the U.S. tax code. The top tax writers in Congress, Democratic Senator Max Baucus of Montana and Republican Representative Dave Camp of Michigan, have asked the Joint Committee on Taxation to study the tax treatment of debt.

“The debt-equity bias is an issue that’s very much on the minds of members of Congress and others looking at tax reform, either broadly or more focused on business tax reform,” said Robert Carroll, a principal in the quantitative economics and statistics group at Ernst & Young LLP in Washington.

Using Chevron, Microsoft Corp. and Verizon as examples, the study by analyst Matthew Caminiti estimates how companies with different approaches to using debt and equity financing would be affected by potential tax changes. Chevron, which paid an average $5.2 billion a year in dividends over the past five years, would benefit from lower taxes on dividends that would attract investors and provide cash for investment, the study said. Sean Comey, a Chevron spokesman, declined to comment.

Tax Liability

The U.S. tax code allows companies to deduct interest payments related to debt financing. When they raise equity financing from shareholders, they can’t deduct the cost of dividends, and the dividends themselves are subject to tax if they are received by individual taxpayers. That difference in tax treatment can encourage companies to borrow more than they would if the tax code were neutral on these financing decisions.

Verizon’s tax liability would have increased by $3.2 billion from 2007 to 2010 had interest not been deductible, the study said. The costs of limits on the interest deduction would have to be measured against benefits the company may receive from lower tax rates on dividends.

Robert Varettoni, a Verizon spokesman, said in an e-mailed statement that the company’s balance sheet is “strong” and that it paid down $9.5 billion in short-term and long-term debt in 2010, mostly related to its purchase of Alltel Corp.

“We have often stated that our goal is to grow cash flow so that we can be in a position to recommend to our board a dividend increase each year,” he said. “We have succeeded in doing so over the past four consecutive years, and that goal hasn’t changed.”

The study doesn’t attempt to estimate how companies might alter financing decisions if the tax code changed. That’s an important consideration, Carroll said. Without the tax benefits, companies may not borrow as much in the future as they do now.

“As the cost of capital changes, companies change the way they finance themselves and the types of investments that they make,” he said.

To contact the reporter on this story: Richard Rubin in Washington at

To contact the editor responsible for this story: Mark Silva at