Opinion

David Cay Johnston

Obama’s hamburger problem

By David Cay Johnston
March 8, 2012

If President Barack Obama can persuade Congress to reduce the corporate income tax rate to 28 percent from 35 percent, he will move tax rates closer to what other modern countries charge.

But his plan to treat “manufacturing” as a special category, with a 25 percent tax rate, brings us to what I call Obama’s hamburger problem.

The problem is how to define manufacturing. To paraphrase Justice Potter Stewart on obscenity, I know manufacturing when I see it; I just don’t know how to define it in tax law.

Assembling automobiles is considered manufacturing. So what about assembling two hot protein discs with special sauce, lettuce, cheese, pickles, onions — all on a sesame seed bun?

The notion of hamburger-making as manufacturing may seem silly, a bit like the 1981 U.S. Agriculture Departmentproposal to classify ketchup as a vegetable for school lunches. But classifying activities as manufacturing or not becomes crucial if manufacturers pay taxes at a reduced rate.

Imagine all the high-paying jobs Obama’s plan would create. Companies of all kinds will want to hire more tax accountants and lawyers making the case their client’s business activity is manufacturing. These are not the sort of additional jobs America needs.

There could also be more work for economists, engineers and historians whose expertise would be tapped for creative ways to expand the definition of manufacturing. We have the prototype for the reduced manufacturer’s tax rate in the Domestic Production Activities Deduction, a law implemented in 2005 which comes with a plethora of complex eligibility rules that already create more work for tax professionals.

DRAG ON ECONOMY

Scrutinizing tax returns to determine what is and is not manufacturing would further require a diversion of IRS auditors, lawyers and specialists from the more important job of hunting for calculated tax evaders. Inevitably there would be litigation aplenty, a boon to trial lawyers but a drag on the economy.

Building an automobile obviously involves manufacturing. Rocks must be refined to turn their useful elements into steel and aluminum. Much of the added value will be in the engine and transmission, where steels made with special alloys must be heat-treated and machined to endure enormous, and rapid, twisting forces. Increasingly cars are built with plastics, sophisticated chemical compounds that must be created from base materials and then molded or extruded.

But should mere assembly of an automobile qualify as manufacturing? Does fitting the already manufactured pieces together qualify as manufacturing? And what if the parts were all manufactured in, say, Japan while the only activity in the United States was assembling them into a whole?

Would tax law define manufacturing as the process of making a car as a whole? Or would companies lobby for laws that break it into parts with profits earned at different stages of production taxed at different rates? Would that, in turn, mean accounting practices that load costs onto one stage of production to take profits at the 25 percent rate and losses, such as an assembly line, at the 28 percent rate?

Imagine a car company that reports a $200 million profit to shareholders. Now imagine that it reports a $300 million manufacturing profit taxed at 25 percent and a $100 million assembly line loss at the 28 percent general corporate rate. The company’s profit would still be $200 million, but its blended tax rate would be just 23.5 percent.

Hamburgers may seem like pure assembly, but a case can be made that they are more like manufacturing than assembling a car from finished parts made overseas.

Your local hamburger joint starts with raw meat, fresh or frozen. If it comes in lumps then someone must make the meat into uniform discs or squares. Then the protein must be fried, grilled or broiled. Only then can the meat, lettuce and whatnot be assembled.

Eight years ago the Bush administration used this very example to warn about the unintended consequences of tax incentives for manufacturing.

The 2004 Economic Report of the President asked, “when a fast-food restaurant sells a hamburger, for example, is it providing a ‘service’ or is it combining inputs to ‘manufacture’ a product?”

The comment, put in a box on its own page to draw attention to the issue, also noted that “sometimes, seemingly subtle differences can determine whether an industry is classified as manufacturing. For example, mixing water and concentrate to produce soft drinks is classified as manufacturing. However, if that activity is performed at a snack bar, it is considered a service.”

Taxing different corporate activities at different rates is a bad idea unless you think we need more national income spent on gaming the tax system. Let’s not go there.

PHOTO: Russia’s President Dmitry Medvedev (2nd  L) and U.S. President Barack Obama (R) eat their hamburgers during lunch at Ray’s Hell Burger in Arlington, Virginia, June 24, 2010.     REUTERS/Kevin Lamarque

Comments
20 comments so far | RSS Comments RSS

no corporate tax… no government…

Posted by Ocala123456789 | Report as abusive
 

You are absolutely correct in what you say (as far as it goes), that manufacturing should not be singled out for special treatment.

This is nothing but a reelection ploy by Obama, since he knows it will sit well with the working class, but it is a diversion from the real problem with manufacturing.

This is a disingenuous offer by Obama that should not go unnoticed by the working class he wants to vote for him. His record on jobs is nothing but “smoke and mirrors”. NOW is the time to force him to make good on his promises by recognizing you are just getting the same line of BS.

The real problem, which you do NOT even mention, is that US manufacturing is now dominated entirely by international companies that specialize in outsourcing American jobs so they can profit at US workers’ expense.

What we NEED is to reverse the special tax breaks that allow and encourage them to invest overseas.

Once THAT is accomplished, maybe we can talk about reducing corporate taxes to be competitive with other OECD countries.

THAT is the approach Obama should take — a “carrot and stick” offer — to first get our jobs back, and then lower their taxes.

THAT approach would give them incentive to bring our manufacturing jobs home, otherwise this idea will only make things much worse.

Basically, you missed the whole point of corporate taxation, and how to solve the issue so that it benefits this country.

Posted by PseudoTurtle | Report as abusive
 

The theoretical tax rate might be the highest, but very few corporations pay it. As a matter of fact, US corporations effective (real) tax rate is the lowest in the G7. Those greedy rascals just want even more for executive bonuses and pay. It won’t make us more competitive nor will they pay workers one cent more if they get even more of a break.

Posted by digginestdogg | Report as abusive
 

It’s this article a joke? Man, the Obama’s objective is protect the companies that generates riches for the country; the “hamburger problem”, how the author calls, is an insignificant point. The enterprises that doesn’t improves the country, have to pay heavier rates. It against the “free economy”, but it’s genial, in my opinion. Any enterprise will want to be a factory. For the country, it’s meaning more jobs and riches. What’s the matter with this?

Posted by Neguinho_tieppo | Report as abusive
 

The insight provided in this article is just brilliant.

Posted by Sharif_Hallak | Report as abusive
 

@Reuters: blogs are still malfunctioning when the article title contains an apostrophe. Comments section doesn’t appear to work in Google Chrome, for example, in that situation…

Posted by matthewslyman | Report as abusive
 

This reminds me of McVities, who fought a long legal battle with the UK tax authorities to have their product defined under our tax code as a cake rather than a biscuit. McVities eventually succeeded, at great cost to the UK tax payer, in gaining a 20% tax advantage over direct competitors; because their product (which is portioned and packaged like biscuits or cookies, resembles a cookie and tastes like a cookie) is in some ways more like a cake.

It was long-since proven by philosophers that the categorisation problem is generally unsolvable. So in general we should be trying very hard to simplify the tax code, not creating new exemptions & deductions for special interests and “worthy causes”. Doing otherwise only benefits lawyers and tax accountants…

Posted by matthewslyman | Report as abusive
 

Here’s a thought, why not just tax all corporations at the same tax rate, and instead of trying to determine how to define manufacturing, give them tax breaks for bringing jobs back here to the US, and building new plants here instead of abroad?

Posted by WD7179 | Report as abusive
 

This ignores a very, very real problem.

In the USA most of our big Corporations actually do very little here. They produce most physical goods outside of the country and have all services that can be done without physical presence, such as help lines, done overseas as well. All we have here are a bunch of overpaid masters of the universe who claim to be the only America worth saving.

The tax code should encourage employment in the USA and not overseas. Far too much tax preference goes to organizations that have only a token real presence in the country. Many are simply gamblers making market bets that could be made from most other countries, but are made here so that they can influence American politics and policies. Time to get rid of them. What good is Wall Street and the big banks to America? Very little. The trash our economy, interfere with our self-government, involve us in foreign wars for their benefit, and have zero fundamental loyalty to the American People.

However you define it, whether “manufacturing” or some other term, percentage of US employees, whether direct or “contractors”, should effect tax rate and especially tax preference or stimulus or government contract preference. Obama has a good idea here, but much more needs to be done. Corporations are most certainly not persons, and if they were far too many would be felons rather than friends.

Posted by txgadfly | Report as abusive
 

I trust that if they do take this route, that they would define manufacturing within some limits like not selling direct to retail and that a physical product has to be 90% or more that the company makes its profits on and having 50 or more employees or whatever.

We don’t want companies in the service industries buying a small manufacturing company so they can claim that they are manufacturers any more than we want assembling food in a kitchen to considered manufacturing.

They can avoid this by just keeping a single rate for all businesses, but having tax credits that apply to new equipment or upgrades and short depreciation schedules for other types of assets for companies that qualify as manufacturing.

Posted by mikemm | Report as abusive
 

All you have to do is looking at the current domestic production activity deduction. The lobbyist had the law bend enough to help the construction industry, engineering firms, excavation, etc. Using the construction of real property test, just about every contractor can get a piece of the action.

Posted by curleybrothers | Report as abusive
 

The government already has an official classification of manufacturing, most famously used in reporting manufacturing jobs each month. Problem solved.

Posted by pdxuser | Report as abusive
 

Exclude consumables from “manufacturing”. Hamburger problem solved.

Posted by akamai1 | Report as abusive
 

The US industrial classification of products and services clearly identify manufacturers, importers and services.

I do not see a great problem for all companies that in good faith are already classified properly (as another poster noted).

Yes, you might have someone trying to stretch the concept of manufacturing, but is a common interpretation problem in any tax code aspects. Like trying to deduct a vacation as a business trip.

We need more competitive tax rates for manufacturers to compete globally. And the savings will increase jobs and salaries, not only the corporate bottom line.

Thank you Mr. President for addressing the issue.

Posted by robb1 | Report as abusive
 

In this case a new word is needed. This reduced tax should begin with goods that are created.

Manufacturing or Assembly will always occur closest to the buyer- look at home furnishings that are now manufactured/assembled at home.

A reduced tax on goods that are created in country will lead to more goods created in country.

Creating parts of a whole closest to where they are used is important for local jobs and can only inspire more efficient ways of creation.

Posted by MiddleWest | Report as abusive
 

“For example, mixing water and concentrate to produce soft drinks is classified as manufacturing. However, if that activity is performed at a snack bar, it is considered a service.”

In the economy today, with production so efficient with the engagement of robots and the internet, folks are looking to make money however they can, the skim, or the dodge.

Just like many headlines today are of court cases and government announcements. Frankly, we got enough stuff. What we need is effective distribution so there is less desperation. A 21 hour work week which nef – the new economics foundation proposes is a start.

We cannot expect to regain what was happening during the bubble. We ought to get our collective head around the abundance we have, and learn to share it. Or we will strip the earth bare trying to ‘grow’ our way to prosperity.

Posted by TheOldSodbuster | Report as abusive
 

The claim that people who complain about Romney’s work at Bain Capital are anti-capitalist is FALSE. Capitalism can be both creative and destructive and don’t let people confuse you with that creative-destructive bull. Bain Capital is a good example of what I call “Management from Hell: How Financial Investor Logic Hijacked firm governance.” It is destructive not creative — as in the deline of the American manufacturing firm. Engineers know this, that is why they have been so upset with the direction sterile investor caitslism a la Bain has taken our country.

Posted by blocke | Report as abusive
 

Classification will definitely be a problem with a special tax break for manufacturers. A more basic problem with this tax break is: why should the government favor manufacturing over other kinds of economic activity? Why is it better or more valuable to build cars than hamburgers? Why are either of those better or more valuable than delivering a package or writing a book? This will be added to the great heap of exceptions and exclusions that is our tax code, each defying the widely accepted wisdom that the base should be broader and the rates lower.

You note one kind of economic activity that may be less useful to the economy – lawyers, accountants, economists and historians arguing over the meaning and application of the law. Good point, but do you have to make those guys look like the Reservoir Dogs?

Posted by RyanDonovan1 | Report as abusive
 

Classification will definitely be a problem with a special tax break for manufacturers. A more basic problem with this tax break is: why should the government favor manufacturing over other kinds of economic activity? Why is it better or more valuable to build cars than hamburgers? Why are either of those better or more valuable than delivering a package or writing a book? This will be added to the great heap of exceptions and exclusions that is our tax code, each defying the widely accepted wisdom that the base should be broader and the rates lower.

You note one kind of economic activity that may be less useful to the economy – lawyers, accountants, economists and historians arguing over the meaning and application of the law. Good point, but do you have to make those guys look like the Reservoir Dogs?

Posted by RyanDonovan1 | Report as abusive
 

The President,as leader of his party, once again expressed that every American should pay his fair share in taxes. One sizable loophole in the Federal Tax Code is TAX EXCLUSION INCOME. It is time to do something about this unfair tax revenue placed disproportionately on small business & especially the self-reliant. The President is correct we are all in this mess together. It is time to correct the inequity of Tax Exclusion income for some rather than for all workers earning income & paying taxes on all received income. There is no reason for this inequity especially after the President many request for equity.

Posted by buckaroo5 | Report as abusive
 

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