Perc Pineda, PhD
Chief Economist, PLASTICS
As of January 1, 2022, businesses can no longer deduct research and development (R&D) costs in the same year they are incurred. Instead, R&D costs must be capitalized and amortized over time. There is a difference, however, in amortization depending on where the R&D expenses took place. With the recent change in R&D expensing, domestic R&D expenses must be capitalized and amortized over a five-year period. Foreign R&D, that is R&D expenses paid to a foreign contractor, must be amortized over 15 years.
Capping innovation through taxation
Many industries grew out of and thrive through innovation. Plastic is a prime example. It needs to innovate continuously throughout the supply chain. At the heart of the matter is a tax policy pivot on R&D that caps the plastics industry’s continuous innovation, while at the same time raising the industry’s tax burden. Such a regressive shift in tax policy, unfortunately, generates adverse spill-over effects on other industries. By and large, new investments in R&D are engines of economic growth. They enhance productivity, which the U.S. economy needs given an anemic economic outlook.
The U.S. government is pushing to increase the market penetration of electric vehicles. The plastics industry supports this goal and continues its R&D activities in plastic materials for various electric vehicle applications: battery components, powertrain, electric vehicles charging infrastructure, to name a few.
Overall, as a material, plastics are key in reducing the costs of manufactured products.
In addition to capping R&D activities, which reduces U.S. industry competitiveness, the new tax rule increases the plastics industry’s tax burden. Plastic businesses’ tax liability will increase as R&D expenses are capitalized and amortized.
U.S. companies are at a comparative disadvantage
According to the National Center for Science and Engineering Statistics (NCSES), manufacturing industries’ (NAICS 31-33) R&D expenditures totaled $308.4 billion in 2020, of which $264.6 billion were paid for by companies or excludes Federally funded R&D. The R&D expenditures in other manufacturing, not elsewhere classified (under NAICS 31-33), which captures the plastics manufacturing value chain is estimated at $36.9 billion in 2020 by the NCSES. This is equivalent to 8.5% of the value of manufacturers’ shipments in the same year.
Using the same percentage share of R&D expenditures on plastics industry shipments value in 2021 of $468.0 billion approximates plastics industry R&D expenditure to $39.8 billion. The plastics industry companies can expense only $8.0 billion per year and as a result significantly increase the industry’s annual taxable income. The higher the tax burden of U.S. companies the less competitive they are internationally. Manufacturers in China are allowed to deduct 200% of their R&D expenditures.[1]
Job creation will also be impacted
The full impact of the plastics industry on employment is estimated at 1.5 million employees in 2021. This estimate accounts for employees in captive plastic products manufacturing and suppliers to the plastics industry.[2] It would be naive to expect that the change in the tax treatment of R&D expenditures would not harm employment. The change from first-year full expensing to amortization over five years reduces R&D jobs creation.
A study by the Information Technology and Innovation Foundation shows that restoring full expensing of R&D expenses would create 81,000 direct jobs nationally. If the tax credit rates are doubled, it would create 188,000 jobs. Moreover, enacting both policies would create 269,000 jobs.[3] The study shows that Ohio, which tops the U.S. for most plastics employees, would create an additional 1,917 R&D jobs with first-year full expensing. Additional jobs translate to additional federal, state, and local tax revenue.
Using the Economic Policy Institute’s (EPI) methodology, we can estimate the federal tax revenue supported by each job in the plastics industry.[4] The plastics industry’s annual payroll in 2021 is estimated at $57.8 billion,[5] which supports federal tax revenue by about $11.6 billion using EPI’s methodology.
The U.S. prime interest rate is now 8.0%. The rising costs of borrowing are hampering businesses’ investment spending, including in R&D. There are strong arguments to enhance R&D tax credit: Reducing the incidence of the tax burden; increasing U.S. global competitiveness; creating R&D job opportunities in science, technology, engineering, and math; and to support income tax revenue. The effects of a first-year full expensing of R&D on the economy are net-positive. The optimal tax treatment is to enhance, not diminish.
[1] Manufacturers Call for Repeal of Anti-Competitive R&D Tax Policy https://www.nam.org/manufacturers-call-for-repeal-of-anti-competitive-rd-tax-policy-19065/?stream=series-news.
[2] “2022 Size and Impact” Washington, D.C.: Plastics Industry Association (Fall 2022). https://www.plasticsindustry.org/data-analysis-reports/size-impact-plastics-economy/
[3] Clay, I. “Estimated State-Level Employment Impact of Enhancing Federal R&D Tax Incentives” Washington, D.C.: Informational Technology & Innovation Foundation (February 2023).
[4] Bivens, J. “Updated Employment Multipliers for the U.S. Economy” Washington, D.C.: Economic Policy Institute (January 2019). https://www.epi.org/publication/updated-employment-multipliers-for-the-u-s-economy/
[5] “2022 Size and Impact” Washington, D.C.: Plastics Industry Association (Fall 2022). https://www.plasticsindustry.org/data-analysis-reports/size-impact-plastics-economy/
