A Taxing Argument on Ad Deductions; Ad Tech's Best in No-Show - Brian Wieser-Pivotal

Trade associations related to the advertising industry have become vocal in recent weeks in response to Congressional proposals from both the Democratic Senate Finance Committee Chair and the Republican Chair of the House Ways and Means Committee that would alter rules surrounding the tax deductibility of advertising Advertising is typically deducted during the period during which spending occurs allowing for an immediate reduction in potential tax obligations However the proposals under consideration contemplate allowing immediate deductions for only half of conventional advertising in the year expenses are incurred with the remainder capitalized amortized and deducted over five or ten year periodsTrade association arguments suggesting tens of millions of jobs and trillions of dollars of economic activity are at risk struck us as hyperbole not least as we do not consider that taxes have a noticeable impact on advertising budgets across the economy Competitive intensity in a given category is more important as we believe that most advertisers budget for advertising because doing so is better than the alternative of not doing so especially in industries where advertising impacts category share changes Nonetheless we were curious to see what we might quantify as the real impact on the advertising economyUsing the most recent data from the IRS we can see that the average cash tax rate on taxable income paid by US corporate taxpayers amounted to 217 of total revenue This rate was well below levels observed during the prior decade which were as high as 273 in 2006 At the same time advertising deductions as a percentage of business receipts generally declined So at least over the prior decade it would seem that lower tax rates were actually met with lower ad spending levels While we can point to years where taxes rose and spending intensity declined we can also point to periods where cash tax rates rose as was the case between 2005 and 2006 and ad spending was essentially flat as a percentage of receiptsSource Pivotal Research analysis of IRS dataAs we suggest above other factors related to the composition of companies in the economy probably has a bigger impact on driving advertising trends Further it is possible that direct response marketers who already capitalize their current period ad spending and amortize those expenses over time per existing tax rules as we understand them to match the creation of a provable customer associated with ad spending account for a growing share of the advertising economy as captured in the IRS39 data setsSo overall it seems unlikely to us that changes to the tax code such as those which are contemplated will have a noticeable impact on media owners39 ad revenues But the tax bite will still hit and it will likely be marketers who will pay and thus we can imagine their interests in defeating any bill which might raise the taxes they pay Further the tax change would probably hit larger marketers disproportionately approximately 2200 companies account for almost 60 of total advertising deductionsTo illustrate the impact of the proposed tax changes in 2010 the IRS estimated 202 billion in advertising deductions and 1021 trillion of income subject to income tax If half of the 202 billion were to have been added back to taxable income and we used the 217 cash tax rate that was realized for the year we would calculate 244bn in taxes collected rather than the 222bn that were actually collected This amount would still have been far less than the taxes collected in 2005 2006 and 2007 all of which were still pretty good years for advertisingSo while we do see an impact for marketers in 2010 this would have amounted to approximately 01 of business receipts or 10 of actual ad spend for every marketer it would seem unlikely to have any meaningful effect on the companies by itself Still there is probably good reason to focus Congress on the appropriateness of altering the tax treatment for the marketers who pay for advertising vs the other sources of revenue they might pursue Towards this end perhaps the better strategy for might lie in focusing on broader tax reform across the entire tax code rather than simply fighting against this single initiative After all marketers are skilled at selling products to consumers perhaps they could be equally good at selling ideas to CongressBrian Wieser is a Senior Analyst at Pivotal Research Group where he covers securities which are impacted by the advertising economy including Facebook Google Yahoo Interpublic Omnicom WPP Publicis Nielsen CBS Viacom and Discovery Communications Brian can be reached at brianpvtlcom amp160Read all Brian39s MediaBizBloggers commentaries at Brian Wieser39s Pivotal ReportCheck us out on Facebook at MediaBizBloggerscomFollow our Twitter updates MediaBizBloggerThe opinions and points of view expressed in this commentary are exclusively the views of the author and do not necessarily represent the views of 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A Taxing Argument on Ad Deductions; Ad Tech's Best in No-Show - Brian Wieser-Pivotal

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