Bankers: New Year's tax deal offers little certainty

The New Year’s deal forged by Congress on the tax side of the “fiscal cliff” agenda restored a measure of certainty for businesses and consumers, but Springfield area banking executives say the effects could produce a different outlook for commercial lending.

Tax structure settled
Preserving the Bush-era tax cuts for all taxpayers who earn less than $400,000 a year – $450,000 for joint returns – will help some small-business owners, said Bob Hammerschmidt, Commerce Bank regional president for the Springfield area.

Owners of subchapter S corporations will benefit the most as their business income flows to their personal tax returns, he said, noting in the grand scheme the tax deal would only make a small difference in lending overall.

“There’s still too much debt, at the government level especially, and still at the individual consumer level,” he said.

Small-business owners often favor the S corporation due to tax benefits and liability protections, because business income is taxed as income on the owner’s individual tax return. If an owner of a subchapter S corporation has income below the ceilings set by the fiscal cliff deal, the owner will benefit from the Bush-era tax cut. In contrast, income from a standard C corporation may involve “double taxation,” first as corporate income and also on the personal tax return of the income.

Old Missouri Bank President and CEO Mark Harrington suggested whatever stimulative effect of making the tax cuts permanent may be blunted by the general climate of uncertainty, noting that all workers will pay more due to the expiration of the 2-percentage-point cut in the Social Security payroll tax enacted in 2011.

The fiscal-cliff tax measures, which is expected to raise additional revenue for the federal coffers of $65 billion a year, should be manageable increases for taxpayers, said KC Mathews, UMB Bank executive vice president and chief investment officer, who outlined a modestly favorable outlook for 2013.

In addition, Mathews noted business-friendly provisions in the fiscal cliff deal that were extended into 2013 including bonus depreciation, the research and development tax credit, and production tax credits for renewable energy and biodiesel.

Upcoming hurdles
Congress will face three fiscal events in the coming weeks: Raising the debt ceiling from $16.4 trillion to an amount estimated by the Office of Management and Budget at $17.5 trillion in late February or early March; cutting $110 billion to avoid fiscal-cliff legislation calling for automatic sequestration, possibly deferred until March; and passing a continuing budget resolution by March 27.

The consequences of failure include federal default, government shutdown and a reduced credit rating.

“They’ve kicked the expense-control thing down a couple of months, but I’m really afraid that we’re going to end up not doing anything there, and we’ll end up getting downgraded again by Moody’s (Investor Services),” Hammerschmidt said. He said the fiscal cliff spending cut commitment is paltry compared to the magnitude of the debt problem.

Lending landscape
Hammerschmidt’s metaphor casts the increasing federal debt as a descent into an ever-deepening canyon. The choices are to climb straight up and out of the canyon – a short path of severe austerity that would entail negative growth for a year or two – or to take more leisurely yet time-consuming switchbacks up the canyon, which also entail risk.

Hammerschmidt said the country must become accustomed to a post-2008 “new normal” of creeping gross domestic product growth of 1.5 percent to 2 percent. That’s not enough for the nation to grow its way out of the fiscal canyon, he said, especially when the canyon floor drops each year by $1 trillion in federal deficit spending.

Individuals who wish to start a small business face steeper challenges in the current consumer climate, as consumers are more cautious about their spending and in many cases have less to spend, Hammerschmidt said. In response, banks must be cautious about lending money.

“We’ve got to really hold steadfastly to the idea that if we’re going to loan these folks money, we’ve got to make sure they’ve got a good plan, that they understand their numbers, and that we don’t do them a disservice by getting them overextended,” he said. “Have they saved enough? Do they have too much debt in relation to their income? Are their plans realistic?”

Mathews’ model of a policy basin foresees sustainable GDP growth of 2 percent to 2.5 percent, not as robust as the longstanding mean of 4 percent but strong enough to avoid a recession, he said, adding he believes the economy will pick up in the second half of 2013 Congress works through the fiscal hurdles. “After the dust settles, I think you’ll see a pickup in loan demand,” he said, citing upswings in many sectors of the economy and corporations stockpiling capital as evidence of pent-up demand.

Deleveraging is another favorable trend, he said. The total-debt-to-GDP ratio has fallen from the 2009 peak of 385 percent to 350 percent reported for the third quarter of 2012, he said, citing U.S. Department of Commerce figures.

Although half of consumer deleveraging is due to default, the other half is the result of individuals reducing their debt, Mathews said, adding confidence among these consumers with healthy balance sheets is growing, fueled by a recovery in housing values by roughly 5 percent nationwide in 2012.

 “We always go to the precipice, and then we cut a deal – and I think people are maybe getting a little numb to that,” Harrington said. Because the problems are too big to settle in a couple of months, Congress will arrive at temporary fixes, he said.

“The disciplinarian in the whole deal will be the bond market,” he said – the consequences of which would be crippling inflation and high interest rates, with the fate of the nation’s economy in the hands of bondholders, many whom reside outside the United States.