The Tax Cuts and Jobs Act (TCJA) is expected to reduce taxes for the country’s 500 largest companies by between $75 billion and $100 billion in 2018, boosting their profitability by 8 percent. Nearly 300 companies have announced bonuses, raises, or boosts to 401(k) contributions.

At first glance, this isn’t just good news, its great news. But after the bonus buzz fades, what will companies do with their extra money? Will they use it to make more capital investments in the US to boost productivity, and eventually, workers’ wages?

Respondents to a recent CNBC/Fed survey of economists, fund managers, and business strategists predict that nearly half of the tax benefits companies reap from the TCJA will be used to increase shareholder dividends, buy back stock, or repay debt. They estimate that only 12 percent will go to workers in the form of higher wages and 23 percent of the tax cuts will be invested in new capital.

In the long-run, spending money on new capacity can be good for both shareholders, who should benefit from greater productivity and profitability in the form of higher stock prices, and for American workers, who should benefit from higher wages when productivity-enhancing investment is made in the US. 

And the TCJA seems to have made it easier for firms to invest that money, by both boosting after-tax profits and temporarily reducing the after-tax cost of buying new equipment. It cuts the corporate tax rate from 35 percent to 21 percent and allows US firms to immediately deduct the cost of equipment they acquire before 2023.

But firms may invest less of their TCJA benefits in the US than the law’s backers hope, for at least five reasons.

1. Business managers may focus more on accounting rules and booked earnings than lower cash tax payments when they consider investments.
2. It continues to make financial sense for many businesses to invest outside the US.
3. US consumers may not demand enough of US-manufactured products to offset the cost of producing them.
4. As the cost of borrowing climbs, higher interest payments could shrink the benefits of lower taxes.
5. Businesses may not see profitable investments, even with higher after-tax rates of return.

Let’s take a look at booked earnings and the accounting rules that dictate them. Timing matters. Sure, full expensing (first-year tax depreciation for capital investments) reduces the marginal after-tax cost of buying equipment from 17.5 percent to zero, as TaxNotes’ Marty Sullivan demonstrates.

But New York University’s Lily Batchelder explains that “expensing itself does not actually lower a company’s book tax liability because the financial accounting rules completely disregard the economic benefit of deferring tax payments.”

And in a 2012 National Bureau of Economic Research working paper, then-Federal Reserve Board economist Jesse Edgerton concluded that because accounting rules obscure the timing of tax payments, the “corporate income tax could create smaller distortions to investment decisions than we would otherwise estimate.” (Edgerton is now at JP Morgan Chase.)

Next, consider the financial incentives that remain in the revenue code to invest outside the US. TPC’s Eric Toder explains that the TCJA does not eliminate the incentive for US firms to invest or report profits in low-tax foreign countries, since foreign profits still get preferential tax treatment. 

Sullivan’s modeling of TCJA changes finds that overall, “foreign investment is likely to continue to be tax-advantaged relative to US investment,” even though on average that advantage isn’t as big as it used to be. Besides, other factors (like shipping and labor costs, or access to growing markets, or the stability of a country’s legal system) may drive a firm’s decision about where to locate its next investment more than corporate income tax rates.

Next, consider US consumers—or, in corporate parlance, “domestic demand.” Even with new tax benefits, a company will not spend its money to build more capacity to produce products nobody wants to buy. Poor sales, after all, drive plant and store closures—just look at the latest news from Harley-Davidson or Sam’s Club.

Then, there is the matter of interest rates. They’re climbing: The yield on the benchmark 10-year Treasury bond has climbed from a September low of 2.05 percent to 2.798 percent on February 6. One reason: Sudden market fears of growing government debt caused, in part, by the TCJA itself. The new law will reduce federal revenues by more than $1 trillion over the next decade and that added borrowing will likely increase future interest rates.

Not only is it getting more expensive to borrow, but the TCJA limits the ability of some businesses to deduct those borrowing costs, especially for highly-leveraged firms. And, if a corporation does deduct interest, the deduction is less valuable now that the corporate tax rate is lower. The net effect of all this will differ among firms, but for many it will wash out at least some of the benefit of lower tax rates and more generous tax depreciation.

Finally, some businesses, especially big tech companies, don’t yet see profitable investment opportunities, even after the TCJA tax cut. Look at Apple and Microsoft: They have been sitting on piles of cash for years. By freeing up foreign profits that, until now, have been untaxed by the US, the TCJA has increased their investable assets even more. But as The Wall Street Journal reported this week (paywall), these companies aren’t in a hurry to spend.   

All told, companies enjoying their extra TCJA-related cash have a lot in common with individual taxpayers who may be enjoying more take-home pay. Good tax news gives us something to be happy about (for now).

But happiness may not change how we use our money.

The Tax Hound, publishing the first Wednesday of every month, helps make sense of tax policy for those outside the tax world and connects tax issues to everyday concerns. Need help or have an idea? Post a comment, or send Renu an email.