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President Bush's Push for Tax Reform; Any
Impact on the Hospitality Industry?

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by Kevin F. Reilly, JD, CPA , May 2005
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“Everything is on the Table”
   President Bush discussing tax reform
“Don’t tax you, don’t tax me; tax the fellow behind the tree.”
   Former Senator Russell Long discussing tax reform
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President Bush is starting off his second term with a bang.  He has proposed a number of massive changes to the way Congress and the American people do business; not the least of which is a reform of social security and a review of the tax code.  In his first term, the President successfully ushered five major tax bills through Congress in four years.  Looking toward his second term, the President established a panel to develop programs for tax simplification and reform.  Unlike past suggestions, this panel’s recommendation could result in fundamental changes in the nation’s tax laws.

However, as the quotes highlight, not everyone is in favor of major changes - particularly those whose industries are directly impacted.  The last change of the magnitude being discussed was in 1986 where Congress eliminated a number of deductions and reduced the tax rate to ensure that taxpayers were not in worse shape than they were when the process started.  The hospitality industry was one industry that did not make out very well with the changes.  The meals and entertainment deduction was limited (remember the two martini lunch) and the deductibility of club dues (including airline clubs) was eliminated.  Then, to make matters worse, the tax rate began to creep back up but the deductions did not come back. 

The tax reform panel has been given its marching orders; the President wants to see results.  The panel should come up with “revenue neutral policy options” for reforming the tax code.  Recommendations are expected across the board.  During the election, the President thought that replacing the federal income tax with a national sales tax was an interesting idea.  The last time a national sales tax was discussed, it was decided to be too complicated and too many questions were left unanswered.  However, as is typical with Congress, nothing ever really goes away – it is just recycled for another day. 

The panel was not appointed until January and is supposed to finish up by July 31.  Then the real work and debate begin.  Congress will hold hearings and try to come up with legislation, assuming it finds the time with the other issues on its plate.  The recommendations need to simplify the tax laws, share the burden and benefits of the federal tax structure in a progressive manner, and promote economic growth and job creation.  On top of all of this, it still must raise $2.2 trillion ($967 billion of which comes from individuals).  The President is not waiting for the report, however.  The latest budget contains nearly $1.2 trillion in lower taxes over ten years, mainly from making his first term tax cuts permanent.

As previously stated, the President got five major tax bills enacted in the first four years of his term.  The two in 2004 do have an impact on the hospitality industry.  The welfare-to-work and work opportunity tax credits (WOTC) were extended for wages paid or incurred for qualified individuals starting work after 2003 and before 2006. 
These credits reward employers for hiring economically disadvantaged individuals.  In many localities, the lodging industry is one of the principal employers of this economic class.  If you do not take advantage of the credits, you may be missing something since the WOTC can run as high as $2,400 for each employee and the welfare to work credit is $8,500 per employee.

The other tax bill passed during the year principally benefited U. S. manufacturers, multinational operations, agribusinesses and energy producers.  However, small businesses, partnerships and real estate investors also receive some benefits.  Two years ago, Congress increased the threshold for small business expensing to $100,000.  This amount is reduced if total investment exceeds $400,000.  This was a temporary measure designed to stimulate the economy and was to return to $25,000 in 2006.  The law extends the higher amounts through 2007.  Congress also approved a 15-year straight-line recovery period for qualified leasehold improvements to nonresidential real estate property placed in service until 2006.  This will result in a substantially quicker return than the 39-year period previously required.

Restaurants occupying more than fifty percent of a building also are eligible for a 15-year period for property placed in service before 2006.  The property also is eligible for bonus first-year depreciation.  Cost segregation of tangible personal property can further increase the size and speed of recovery of assets placed in service.

Kinder and gentler no more:  What Congress giveth, the IRS taketh away.  In the late 1990s the Internal Revenue Service was the subject of hearings on Capitol Hill.  One Member of Congress after another took to the airwaves to chastise the IRS for its mistreatment of taxpayers.  Regardless of whether the abuse of the IRS by Congress was justified, it did impact the way that the IRS worked.  Audit rates continued a downward trend and the Service began working on its image.  However, the pendulum is swinging back.  A number of former IRS commissioners have bemoaned the low audit rate and continuously express concern about what this has done to voluntary compliance.  The President’s budget contains substantially more funds for IRS enforcement and representatives of the IRS have indicated that it wants to “balance its traditional provision of service and outreach with an increased focus on enforcement.”   The Commissioner, in testimony before Congress, reminded them that “enforcement more than pays for itself.”  With the size of the deficit, look at Congress to consider funding the IRS a wise investment. 

Expect the IRS to look at partnerships in particular to ensure that the arrangements have economic substance and are not tax shelters or abusive transactions.  Congress assisted the IRS in this regard by providing substantially increased penalties for tax shelter abuses or for violating the tax shelter reporting rules. 

One other position of the IRS drastically impacts all those properties owned through a partnership structure.  The number of partnerships has greatly expanded over the last few years particularly as a result of the popularity of the Limited Liability Company or Partnership (LLC or LLP).  As a result, the Chief Counsel issued a notice stating that the IRS will continue to enforce administrative levies and liens filed against a general partner based on assessments against a partnerships.  The IRS does not have to issue a separate assessment against the partner.

The President is on record against higher taxes and has demonstrated that position throughout his first term.  However, the deficit continues to expand (it is amazing that just a few years ago, we were in discussion on how to spend the surplus) and revenue must be found.  Look for a continued emphasis on enforcement and discussions on tax reform during the year.

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Kevin F. Reilly JD, CPA is Partner in the Fairfax, VA office of PKF Witt Mares.
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Contact:

Robert Mandelbaum
Director of Research Information Services
The Hospitality Research Group
3340 Peachtree Road, Suite 580
Atlanta, GA 30326
(404) 842-1150, ext 223
robert.mandelbaum@pkfc.com
www.pkfc.com

Also See: U.S. Hotels Staff Up - Rising Benefit Costs at Highest in 15 Years / Mark Woodworth / May 2005
Hotel Guests Not Picking Up the Phone / Robert Mandelbaum / April 2005
Are Hotel Employee Benefits Really Soaring? / Gregory J. Miller and Robert Mandelbaum / March 2005
Plying the Per Diems: How Market Forecasts Should Impact Hotel Rate Strategy / Gregory J Miller / PKF / February 2005
Double-Digit Profit Growth for U.S. Hotels in 2004 and 2005; Strong Revenue Growth Overcomes Some Expense Concerns / PKF / February 2005
Hotel Construction Signs Along the Road to Recovery; Measuring Hotel Developer Intent / R. Mark Woodworth and Robert Mandelbaum / January 2005
Understanding the Recovery Occurring in the Meeting’s Market; Surveying the Meeting Planners / Robert Mandelbaum / December 2004
First Half 2004 Hotel Profits Solidify 2005 Outlook; Industry Still Lags Far Behind its Past Peak Performance in 1998 / HRG & PKF Consulting / December 2004
Room Rates Across the Top 50 Hotel Markets in the U.S. Will Increase by 3.7% in 2004; Five Highest and Five Lowest Average Daily Room Rate Hotel Markets in 2005 / December 2004
Perspectives on the Road to Recovery - U.S. Lodging Industry 2005 / HRG & PKF Consulting / November 2004
Other Revenue Is Good Revenue / Robert Mandelbaum / November 2004
Uncanny! Hotel Occupancies “Key Indicator” of Presidential Election Outcome / October 2004
Is the Hotel Industry Smart Enough to Avoid Overbuilding; Ten Reasons Why Real Estate Markets Become Overbuilt / Jack B. Corgel / July 2004
PKF Consulting/HRG Survey Forecasts Banner Year for Hotel Transactions; Investors Favoring the Full-service Segment / May 2004
First Uptick for Hotel Industry in Three Years; Full-Service Hotels Lead the Way In U.S. Hotel Profits for 2004 / Hospitality Research Group / March 2004
Demand in the Full-service Hotel Sector is Expected to Increase by 6.3% in 2004; Best and Worst Hotel Markets in Terms of RevPAR Growth / PKF Consulting / January 2004


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