/~ 

the use of 

Tax Subsidies 

for the cost of con1pliance "With 

Safety and Health Regulations 

Office of 

Januacy1981 na~s ~~~~~~~~~~ Department of the Treasury ~ 
DEPARTMENT OF THE T R EASURY 

WASHINGTON. DC 20220 

ASSISTANT SECRETARY 

Dear Chairman Dole: 

Section 552 of Public Law 95-600 , The Revenue Act of 

1978, directs the Treasury to make a full and complete 

investigation of the appropriateness of providing additional 

tax incentives for expenditures required by the Occupational 

Safety and Health Act {OSHA) and the Mining Safety and Health 

Administration {MSHA). The Revenue Act of 1978 further 

provides that the results of such an investigation be 

reported to the Committee on Finance of the Senate and the 

Committee on Ways and Means of the House of Represetatives. 

Pursuant to that section, I hereby submit the report 

entitled "The Use of Tax Subsidies for Costs of Compliance 

with Occupational Safety and Health Regulations . " 

I am sending a similar letter to Chairman Rostenkowski 

of the Committee on Ways and Means of the House of 

Representatives. 

The Honorable 

Robert J . Dole 

Chairman 

Sincerely, 

f:;J;u.,J?/:1 

Em i 1 M. Sun 1 e y 

Acting Assistant Seer ary 

{Tax Pol icy) 

Senate Finance Committee 

Washington , D. C. 20510 

Enclosure 
DEPARTMENT OF THE TREASURY 

WASHINGTON DC 20220 

ASSISTANT SECREIARY 

Dear Chairman Rostenkowski: 

Section 552 of Public Law 95-600, The Revenue Act of 

1978, directs the Treasury t o make a full and complete 

investigation of the appropriateness of providing additional 

tax incentives for expenditures required by the Occupational 

Safety and Health Act (OSHA) and the Mining Safety and Health 

Administration (MSHA) . The Revenue Act of 1978 further 

provides that the results of such an investigation be 

reported to the Committee on Finance of the Senate and the 

Committee on Ways and Means o f the House of Represetatives. 

Pursuant to that section, I hereby submit the report 

entitled "The Use of Tax Subsidies fo r Costs of Compliance 

with Occupational Safety and Health Regulati ons." 

I am sending a similar letter to Chairman Dole of the 

Committee on Finance o f the Senate . 

The Honorable 

Dan Rostenkowski 

House Committee on 

Sincerely, 

0m.J~ Emil M. Sunley 

Acting Assistant Secre ary 

(Tax Pol icy) 

Ways and Means 

Washington, D.C. 20515 

Enclosure 
Table of Contents 

Page 

CHAPTER 1 

INTRODUCTION AND SUMMARY. • . • • . . • • . . . . . . . . . . . . . . . . • . • • . . . . . • 1 

I. Evaluation of Tax Subsidies for Compliance......... 1 

II. Costs of Regulatory Compliance..................... 3 

CHAPTER 2 

EVALUATION OF TAX SUBSIDIES FOR COMPLIANCE COST............ 5 

I. Introduction....................................... 5 

II. Administrative Problems with Tax Subsidies for 

Compliance Cost.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7 

A. Experience with an Existing Tax Subsidy for 

Compliance Cost 7 

B. Problems in Identifying OSHA/MSHA Compliance 

Cost 16 

III. Economic Effect of Compliance Subsidies 

IV. Structural Problems with Tax Subsidies 

V. Subsidies for Capital Cost of Compliance 

A. Special Investment Credits 

1. Effects of Depreciating the Amount of 

the Subsidy 

2. Unevenness of Tax Subsidies Across 

Asset Lives 

3. Tax Liability Limitations 

B. Tax-exempt Bonds 

C. Rapid Amortization of Investments 

D. Expensing Investments 

VI. Summary 

18 

• 21 

23 

24 

24 

26 

26 

27 

28 

29 

30 
vi 

CHAPTER 3 

COST OF COMPLIANCE WITH OSHA AND EPA REGULATIONS 

I. Introduction 

II. Description of the Data 

III. Statistical Findings 

A. Variations in Compliance Costs 

B. Specific Cases of Cost Variation 

1. Variation Among Industries in the Cost of 

31 

31 

32 

35 

35 

38 

Compliance with Particular Regulations 38 

2. Variation in Capital Cost at the Firm Level 40 

APPENDIX A 

Tables of Compliance Cost Comparisons by Industry 

and Type of Regulation 

APPENDIX B 

Estimation of Annual Capital Cost of Compliance 

wtth Regulations 

49 

55 
Tables and Figures 

Page 

Table 2-1 

Annual Compl i ance Cost Per Un i t of Output ..•••.•••••••.•....•..•.•• l9 

Table 2-2 

Annual Compliance Costs Per Unit of Output •..•.•••.•.•.•..••••••.•• 20 

Table 2-3 

Present Value of Tax Deprec i ation Allowed on $100 of Investment 

Credit . . . . ... . ...... . .............. . .. . . . . . ........................ 25 

Table 2-4 

Present Value of Tax Savings From 5-Year Amortization for an 

As se t o f $ 1 , 0 0 0 • • • • • • •••••••••••••••••••••••••••••••••••••••••••••• 2 9 

Table 2-5 

Present Value of Additional Tax Saving From Expensing •..•.••...•••. 30 

Table 3-1 

Sales, Capital Expenditures and Employment of Participating 

Companies as Compared to All Companies in the U.S. in 1977 • • . • ....• 34 

Table 3-2 

Comparisons of Compliance Costs for Participating Companies •••..•.• 36 

Table 3-3 

Costs of Compliance with EPA Water Treatment Regulations, Selected 

Industries .... . .......................................... . . . ....... 39 

Table 3-4 

Costs of Compliance with OSHA Toxic and Hazardous Substances 

Regulations, Selected Industries ••.••••. • •.•..•••.••.••.. • ••••.•..• 39 

Table 3-5 

Cost of Compliance with OSHA Occupational Health and Environmental 

Control Regulations, Selected Industr i es .••.•.•••••.•••••••••.••.•. 39 

Figure 3-1 

Capital Cost as a Pe r cent of Total Cost of Compliance with EPA 

Water Treatment Regul ations, Nine Companies in the Chemical and 

Allied Products Industry •..••.••••••..........•.•.....•.•.•••.•.•.• 41 

Figure 3-2 

Post-1977 Capital Expenditures as a Percent of Total Capital 

Expenditures for Compliance with EPA Water Treatment Regulations, 

Eleven Companies ...... . . . .............. . . . ........ . .. .. ............ 42 
viii 

Page 

Figure 3-3 

Capital Cost as a Percent of Total Cost of Compliance with OSHA 

Toxic and Hazardous Substances Regulations, Eleven Companies •...... 44 

Figure 3-4 

Post-1977 Capital Expenditures as a Percent of Total Capital 

Expenditures for Compliance with OSHA Toxic and Hazardous 

Substances Regulations, Eleven Companies ...•.•...••................ 45 

Figure 3-5 

Capital Cost as a Percent of Total Cost of Compliance with 

OSHA Occupational Safety and Health Regulation, Twelve 

Companies .......................................................... 46 

Figure 3-6 

Post-1977 Capital Expenditures as a Percent of Total Capital 

Expenditures for Compliance with OSHA Occupational Health and 

Environmental Control Regulations, Twelve Companies •...... •..•.••.. 48 

Table A-1 

Compliance Cost as Compared to Sales for Participating 

Companies . ......................................................... 50 

Table A-2 

Timing of Total Capital Expenditures Required for Compliance with 

EPA Regulations, Participating Companies ....•.....•..•••••••••••.•. 51 

Table A-3 

Timing of Total Capital Expenditures Required for Compliance with 

OSHA Regulations, Participating Companies •.•..••••••...•••••••.•••• 52 

Table A-4 

Composition of Annual Cost of Compliance with EPA Regulations, 

Participating Companies ••..........•..•.................... • ...•... 53 

Table A-5 

Composition of Annual Cost of Compliance with OSHA Regulations, 

Participating Companies ............................................ 54 

Table B-1 

Capital Expenditures and Annual Cost of Capital for Compliance with 

EPA Regualtions .................................................... 58 

Table B-2 

Capital Expenditures and Annual Cost of Capital for Compliance with 

OSHA Regulations ..•• . .••.•.•.•...•.........••.........•.........••. 59 
CHAPI'ER 1 

INTRODUCTION AND SUMMARY 

In section 552 of Public Law 95-600 (The Revenue Act of 

1978) Congress directed the Treasury Department to study the 

possibility of providing public subsidies to defray the costs 

associated with government regulation. In particular, 

Congress asked for a Treasury analysis of the appropriateness 

of providing preferential tax treatment for expenditures made 

in order to comply with regulations of the Occupational 

Safety and Health Administration (OSHA) and the Mine Safety 

and Health Administration (MSHA). This report is being 

issued in response to the Congressional directive contained 

in the Revenue Act of 1978. 

I . Evaluation of Tax Subsidies for Compliance 

Chapter 2 considers whether a subsidy for compliance 

costs could be administered fairly and effectively. The 

experience of the Internal Revenue Service (IRS) with tax 

subsidies provides valuable insights. The tax law currently 

provides preferential tax treatment for capital expenditures 

made in response to EPA requirements. The effort of IRS to 
-2-

implement Congressional intent has encountered serious 

problems in defining and identifying EPA-mandated 

expenditures. These problems result from the need to 

distinguish expenditures made to comply with EPA guidelines 

from those made for normal business reasons. Similar 

difficulties could be expected in administering any subsidy 

for OSHA/MSHA related costs. 

An additional problem in the case of OSHA/ MSHA 

regulations is the need to distinguish gross and net costs of 

compliance. These regulations may also reduce labor costs to 

some degree. The benefits of improved health and safety will 

reduce wage demands by employees and the incidence of 

ace idents and illnesses. The result will be that the net 

costs imposed on private firms by health and safety 

regulations will be below the gross compliance costs. 

Chapter 2 also considers the economic effects of 

specific subsidy proposals. The most efficient subsidy would 

be one that subsidizes net compliance costs of all kinds at 

the same rate. This avoids the discrimination and misallocations inherent in subsidizing a specific kind of compliance 

input, e.g., only capital or only labor. Input-specific 

subsidies will bias production decisions away from the most 

efficient input mix. Also, compliance subsidies that do not 

apply across the board will discriminate in the amount of 

relief they provide to different industries and even to firms 

in the same industry. 

When the tax system is used to make subsidy payments 

the normal budget and appropriations processes are bypassed. 

Also, the payments will usually be made in tax-exempt dollars 

and, as a result, the budgetary measure of revenue loss will 

understate the true resource costs of the program. This is 
-3-

because the revenue loss is in tax-exempt dollars whereas 

resources are valued in markets in before-tax dollars. 

Furthermore, a tax subsidy program almost always involves 

higher costs than a direct subsidy program that stimulates 

the subsidized activity to the same degree. The reason is 

that some part of the tax loss represents benefits to 

high-bracket taxpayers in excess of the payments required to 

accomplish the subsidy objectives. 

Special investment tax credits, rapid "write-offs" for 

certain capital equipment, or the use of tax-exempt bonds to 

finance the capital equipment r equ ired to comply with 

regulations are particularly inequitabl~ and inefficient. 

They favor some types of compliance investments relative to 

others and some industries relative to others. 

II. Costs of Regulatory Compliance 

A statistical analysis of regulatory compliance costs is 

presented in Chapter 3. This analysis is based on a unique 

set of data developed by Arthur Andersen and Company for a 

report sponsored by the Business Roundtable. l / 

The data illustrate the degree to which variability of 

costs would present problems of designing and implementing a 

compliance subsidy. For the 48 companies studied, the cost 

of EPA regulations amounts to about 60 cents per hundred 

1/ Arthur Andersen and Co., Cost of Government Regulation 

Study, 19 79. 
-4-

dollars of sales. By comparison, the gross cost of OSHA 

regulation is about 4 cents per hundred dollars of sales. 

The costs of both types of regulation vary considerably 

across industries. The mix of compliance costs between 

capital and other production costs also exhibits substantial 

variation across industries and between firms in the same 

industry. 
CHAPTER 2 

EVALUATION OF TAX SUBSIDIES FOR COMPLIANCE COSTS 

I. Introduction 

As required by section 552 of the Revenue Act of 1978, 

this chapter considers and evaluates various methods for 

subsidizing regulatory compliance costs. Its main findings 

are that: 

o It would be difficult to administer a subsidy for 

the net costs of complying with OSHA/ MSHA regulations. 

o A subsidy provided for only the capital costs, but 

not other costs of compliance, would encourage 

firms to adopt excessively capital-intensive 

compliance methods. 

0 It would be particularly inequitable and 

inefficient to provide preferential tax treatment 

such as special investment tax credits, 

accelerated depreciation, and tax-exempt 

financing -- for the capital costs of compliance. 

This chapter considers a number of practical subsidy 

design issues. The first is whether a subsidy for the net 

costs of complying with OSHA/ MSHA regulations could be 

administered fairly and effectively, regardless of how it is 

designed. The experience of the Internal Revenue Service 

(IRS) with existing tax subsidies provides valuable insights 

into this issue. The tax law currently provides preferential 
-6-

tax treatment for capital expenditures made in response to 

EPA requirements. The efforts of IRS to implement Congressional intent has encountered serious problems in defining 

and identifying EPA-mandated expenditures. These problems 

result from the need to distinguish expenditures made to 

comply with EPA guidelines from those made for normal 

business reasons. 

administering any 

Section II of this 

Similar difficulties could be expected in 

subsidy for OSHA/ MSHA related expenses. 

chapter discusses these issues. 

One important aspect of subsidy design is defining the 

base of the subsidy. The principal issues are: (1) whether 

subsidy payments should be provided for gross compliance 

costs or for net compliance costs, and ( 2) whether all or 

only specific types of compliance expenditures should be 

subsidized. Section III demonstrates that the most efficient 

subsidy for OSHA/MSHA related costs would be one that subsidizes net compliance costs of all kinds at the same rate. 

This avoids the discrimination and misallocations inherent in 

subsidizing a specific kind of compliance input, e.g., only 

capital or only labor. Input-specific subsidies will bias 

production decisions away from the most efficient input mix. 

Also, compliance subsidies that do not apply across the board 

will discriminate in the amount of relief they provide to 

different industries and even to firms in the same industry. 

There are also more general problems with tax programs 

as a vehicle for delivering subsidies. Congressional review 

of both the operation of the program and its cost is unlikely 

to occur on a regular basis. Also, if the tax system is used 

to make the subsidy payments, the payments will usually be 

made in tax-exempt dollars and in such cases the budgetary 

measure of revenue loss will understate the true resource 

costs of the program. This is because the revenue losses 

will be ' measured in tax-exempt dollars whereas resources are 

valued in markets in before-tax dollars. 
-7-

Tax subsidy programs of the type now available for some 

EPA-related expenditures -- special investment tax credits, 

rapid amortization for certain capital equipment, or the use 

of tax-exempt bonds to finance the capital equipment required 

to comply with regulations -- are particularly inequitable 

and inefficient. They favor some types of compliance 

investment relative to others, some industries relative to 

others, and also provide more benefits to high-income 

taxpayers than are necessary to accomplish the subsidy 

objectives. 

II. Administrative Problems with Tax Subsidies for 

Compliance Costs 

It is doubtful whether a tax subsidy program for the net 

costs of complying with OSHA/MSHA regulations could be administered fairly and effectively. The problems that the IRS 

has faced in distinguishing eligible costs for a current tax 

subsidy program illustrate some of the difficulties that 

could be expected. The specific case is the use of tax-exempt 

financing for certain EPA-related compliance costs. 

A. Experience With An Existing Tax Subsidy 

For Compliance Cost 

Section 103 of the Internal Revenue Code allows State 

and local governments to issue tax-exempt bonds to finance 

the purchase of pollution control equipment and solid waste 

disposal facilities by private firms. ~/ Lenders are willing 

~/ Code Section 169 allows another subsidy in the form of 

5-year amortization on pollution control equipment installed 

in plants in existence before December 31, 1976. 
-8-

to accept a lower rate of interest on tax-exempt than on 

similarly rated taxable bonds. Thus, borrowing costs are 

lower for those investments which are financed by tax-exempt 

debt. In this way, the government can share the costs of 

acquiring solid waste disposal and pollution control 

facilities with private sector investors. 

Responsibility for administering these tax subsidy 

programs is divided between EPA and State officials, on the 

one hand, and IRS officials, on the other. EPA officials may 

certify that particular investments serve a pollution control 

or solid waste disposal function. IRS officials decide how 

much of the investment qualifies for special tax treatment. 

The tax subsidies for environmental control facilities 

are provided by Code sections 103(b) (4) (E and F) enacted in 

1968. ll More than six years elapsed before temporary 

regulations were published and some proposed regulations 

defining eligible facilities have not been finalized. The 

IRS has been unable to develop administrable procedures for 

limiting the subsidy to the expenditures that legislators 

wanted to subsidize. 

The legislative history of section 103(b) indicates that 

the Congress intended to subsidize only those investments 

specifically undertaken because of EPA mandates. One issue 

was how to separate the pollution control investments made in 

response to EPA regulations from those expenditures companies 

3/ Prior to 1968, virtually any private enterprise investment, at the discretion of a state or local government 

authority, could be financed by the issuance of tax-exempt 

bonds. In 1968, Congress amended Code section 103 to limit 

the issuance of such bonds. However, among the exemptions 

from these new restrictions was the financing of "pollution 

control" and "sewage or solid waste disposal facilities." 
-9-

would have made in the absence of regulation but which also 

had the incidental effect of reducing pollution. The more 

general definitional problem is one of producing regulations 

which provide the tax subsidy for qualified investments and 

prevent others from receiving it. 

One question that emerged while regulations were being 

prepared to implement section 103{b) was whether containment 

devices designed to prevent the discharge of nuclear contaminants into the atmosphere in the event of accidents were 

eligible for tax-exempt financing. The argument advanced for 

granting tax subsidies for such investments is that they 

potentially limit discharges of highly dangerous substances 

into the environment. However, regulators decided to prohibit tax-exempt financing of such investments because the 

investments would have been made to protect the public from 

nuclear accidents even in the absence of any EPA regulations. 

For the same reason, nuclear waste was also excluded 

from the definition of solid waste by Proposed Regulation 

section 1.103-8 { i) {3). Other extremely hazardous materials, 

such as chemical wastes, were not excluded. When it became 

clear that this distinction could not be justified, the 

proposed regulation defining a pollution control facility was 

modified to reflect the position that no "pollution control" 

subsidy is appropriate for equipment required for health and 

safety purposes. The IRS decided that a consistent de fin ition should apply to investments in solid waste disposal 

facilities eligible for tax-exempt bond financing. The 

regulators ruled that a material should be excluded from the 

definition of "solid wastes" if improper handling could cause 

an immediate risk to the health and safety of the public or 

the employees of the concern in question. 
-10-

In attempting to administer the subsidy program in 

accordance with the wishes of Congress, IRS regulators denied 

the tax subsidy to investments which . both prevented environmental damage and also protected employees from exposure to 

toxic substances. The reasoning was that employers whose 

production process involved toxic substances would normally 

have installed devices to protect their workers as a matter 

of prudent personnel policy. That is, without such equipment 

it would not be possible to retain a skilled labor force. 

The development of such general criteria for discriminating between qualifying and nonqualifying investments provides some basis for identifying expenditures that would have 

been made in the absence of EPA regulations. However, 

skilled administrators are required to implement these 

criteria in specific cases. 

Proposed regulations also 1 imit qualifying "pollution 

control" expenditures to those for "abating or controlling 

water or atmosphere pollution or contaminants by removing, 

altering, disposing, storing, or preventing the creation or 

emission of pollutants, contaminants, waste, or heat". Thus, 

in order to qualify for the subsidy, the device installed had 

to assist in the control of some pollutant actually generated 

as a result of the industrial process. It is inevitable that 

such requirements will be adopted by regulators concerned 

with developing general rules for administering a subsidy for 

pollution control investments. But since the definition of a 

pollution control investment will always be arbitrary, it 

will only be possible to subsidize a limited number of alternative methods of controlling pollution and some methods will 

always be favored relative to others. 
-11-

Even if a device meets the criterion of not being 

required as a part of the normal course of an enterprise's 

business and does prevent the discharge of "realized pollution", further refinement is needed to determine how much of 

a particular pollution control expenditure qualifies for 

tax-exempt financing. Many such expenditures, in addition to 

controlling pollution, have benefits of the type associated 

with normal investments. It is necessary, therefore, to 

develop and apply procedures for separating the part of the 

capital cost which will produce income in the future from 

that required to comply with EPA guidelines. !/ For example, 

a gas that might have been vented in the absence of some 

piece of pollution control equipment may undergo add i tiona! 

processing because of pollution control regulations. If the 

processed gas has value either as an output or an input, to 

subsidize this processing would clearly be inconsistent with 

the objective of only subsidizing compliance with environmental regulations. However, in practice it may be difficult 

to draw a fine distinction between the cost of complying with 

regulations and the cost of obtaining a usable output because 

of the joint nature of the process involved. 

Similar problems have also been encountered in defining 

solid waste facilities eligible for tax-exempt financing. 

One rule developed for making this determination, section 

1.103-8 (i) (2) of the proposed regulation, provides that 

"property which further processes, utilizes or reconstitutes 

material or heat which is no longer solid waste" does not 

qualify as a solid waste disposal facility if the material or 

heat has a market value. For example, under Proposed 

Regulation section 1.103-S(i) (2) equipnent which is used to 

!/ Conceptually this implies that any profit produced by 

compliance activities must be used to offset compliance 

costs. 
-12-

burn garbage to produce steam would qualify for the subsidy 

as a disposal facility, but equipment which is used to 

process the steam once it is in a marketable or useful state 

(e.g., capable of generating electricity) would not qualify. 

This position acknowledges that a facility may operate 

as an integrated entity, but holds that once the material it 

processes has an identifiable market value, the equipment no 

longer processes "waste" and, therefore, does not qualify for 

a subsidy. A contrary position is that no portion of a 

facility which disposes of solid waste should be disqualified. The legislative history of Code section 103(b) (4) (E) 

incorporates and quotes the definition of solid waste found 

in the Solid Waste Disposal Act at the time the tax subsidies 

were restricted to environmental control facilities. The 

legislative history of that Act indicates that the Congressional intent was simply to subsidize the disposal and 

recycling of solid waste. The draft regulation is consistent 

with the Congressional intent in that it does not disqualify 

such facilities from receiving the subsidy, but instead 

limits the subsidy to equipment which is separately indentifiable as processing solid waste material. However, there 

are practical problems in precisely delineating and defining 

a separately identifiable waste control unit. 

The proposed regulations initially issued for tax-exempt 

financing of solid waste facilities defined solid waste as 

"property which is useless, unused, unwanted or discarded 

solid material which has no market or other value at the 

place where it is located." These regulations also defined a 

qualifying facility to be "any property used for the 

collection, storage, treatment, utilization, processing, or 

f ina! disposal of solid waste." [Reg. sect. 1.103-8 (f) (2) ] • 

In practice, it has proved difficult to draw the line between 

normal, profit-making industrial processes -- in which the 
-13-

residue of one process is then subject to further processing 

to obtain valuable by-products and the processing of 

"waste." In other words, when is the processing of industrial waste a qualified activity and when does it serve a 

profit-making function? So far the question is unanswerable. 

Twelve years after enactment of the subsidy, efforts to 

develop clarifying regulations continue so that private firms 

and their bond counsel still face uncertainty about which 

projects will qualify for the subsidy. The determinations 

are still made on a case by case basis. / 

A good example of the range of these definitional 

problems is presented by the continuing disagreements between 

the IRS and a soft drink company over whether certain investments are eligible for tax-exempt financing. Some states 

have prohibited the sale of non-returnable bottles and 

required substantial deposits on returnable bottles. To 

comply with these laws, bottling companies have had to make 

investments in: ( 1) returnable bottles and ( 2) warehouses, 

land, machinery, and equipment for cleaning and refilling the 

bottles. A number of local governments proposed to issue 

tax-exempt industrial development bonds to finance these 

costs and one company requested a ruling that the bonds be 

declared tax-exempt on the grounds that the investments are 

for solid waste disposal facilities. 

5/ A boiler system to recover useful energy from _bark 

stripped from timber in a forestry-products plant has been 

ruled by IRS to be a "solid waste" disposal facility 

qualifying for tax-exempt bond financing. On the other hand, 

IRS has ruled that a metal shredding machine installed in a 

junk yard does not qualify. 
-14-

The major disputed issue is whether returnable bottles 

are solid waste. At the time section 103(b) (4) (E) was 

enacted, section 203(4) of the Solid Waste Disposal Act 

provided that: "The term solid waste means garbage, refuse, 

and other discarded solid waste materials, inc! ud ing solid 

waste materials resulting from industrial, commercial, and 

agricultural operations, and from community activities." 

According to Regulation section 1.103-S(f) "solid waste" 

shall "have the same meaning as in section 203(4) of the 

Solid Waste Disposal Act (42 U.S.C. 3252 (4)), except that 

for purposes of this paragraph, material will not qualify as 

solid waste unless, on the date of issue of the obligations 

issued to provide the facility to dispose of such waste 

material, it is property which is useless, unused, unwanted, 

or discarded solid waste material which has no market or 

other value at the place where it is located. Thus, where 

any person is willing to purchase such property, at any 

price, such material is not waste. Where any person is 

willing to remove such property at his own expense but is not 

willing to purchase such property at any price, such material 

is waste." In contesting the IRS regulation, the company 

argued: ( 1) the bottles are not valuable for normal market 

reasons, but instead are valuable because of the deposits 

established by the state laws and (2) the requirements in the 

IRS regulations that define waste as material having no value 

are contrary to the legislative history of the solid waste 

subsidy. 

The Treasury response to this position is that it is 

unnecessary to decide whether discarded soda bottles are 

solid waste. For example, manufacturers often make investments to produce longer lasting products. A tire manufacturer may change a production process to produce radial tires 

rather than conventional ones. Even though discarded tires 

are solid waste and production of longer-lasting radial tires 
-15-

is likely to reduce the accumulation of discarded tires, the 

Treasury contends the production of radial tires does not 

dispose of solid waste. Using Regulation section 

1.103-S(f) (ii), which defines waste disposal broadly to 

include "collection, storage, treatment, utilization, 

processing, or final disposal", Treasury personnel made the 

case that returnable bottle systems are intended to prevent 

the creation of solid waste and not to dispose of solid 

waste. 

Representatives of the bottling companies have countered 

that disposal of solid waste is at least one of the major 

purposes behind the state-mandated requirements to use 

returnable bottle systems. The IRS issued temporary regulations, which dealt with facilities that dispose of solid 

waste and that at the same time have other purposes. 

According to section 17.1 of the temporary regulations the 

cost of such a facility must be allocated among its several 

purposes. If, for example, 63 percent of the facility is 

devoted to the disposal of solid waste, then 63 percent of 

the cost of the facility can be financed by tax-exempt bonds. 

The regulations permit the use of any reasonable method of 

cost allocation. On the basis of this temporary regulation, 

the IRS position is that returnable bottles serve primarily 

as containers for beverages and that any secondary function 

of new bottling plants as facilities for the disposal of 

solid waste is relatively insignificant. 

The focus of the dispute shifted once again with 

bottling company spokesman pointing out that they already 

owned facilities for producing soda in non-returnable 

bottles, that solid waste disposal is the only purpose of any 

new facilities, and that the new facilities will in no way 

increase their capacity. One possible response to this 

position is that the state-mandated requirements which out-
-16-

lawed non-returnable bottles have had the effect of reducing 

the existing productive capacity of non-returnable facilities, since the output from such facilities is no longer 

marketable. Hence, the new investments in returnable facilities do represent an increase in capacity . Of course, such 

arguments are unlikely to end the controversy. 

The foregoing discussion provides a flavor of the 

practical problems encountered in administering existing tax 

subsidy programs for compliance costs. Congress intended the 

present subsidies to apply only to certain costs incurred to 

comply with environmental laws. However, experience ind icates that finding and implementing a workable distinction 

between eligible and ineligible costs, for the wide range of 

conditions encountered, involves considerable effort and 

defies general solutions. 

B. Problems in Identifying OSHA/ MSHA Compliance Costs 

If Congress decides to provide tax subsidies for 

OSHA/MSHA-mandated expenditures, similiar problems can be 

expected. Skilled administrators will be needed to discriminate between safety expenditures required by OSHA/MSHA and 

those made for normal business reasons. This would apply to 

all safety expenditures, whether for capital or labor costs. 

It may be difficult to decide how to allocate the total 

production cost between the component required by OSHA/MSHA 

regulations and and the part that contributes directly to 

ordinary productive activity. 

In the case of capital expenditures, the use of safer 

machines may be expected to reduce other costs of doing 

business for the company at the same time. For example, a 

facility installed to protect workers from exposure to toxic 
-17-

elements can lower labor costs because employees may be able 

to work longer hours on processes involving toxic materials 

without danger of being overexposed to them. This is 

analogous to the waste definition problem -- at some point 

the further processing of toxic wastes may produce an outcome 

which is valuable to the firm. 

Many of the problems of identifying capital costs mandated by regulations also arise in the case of labor costs. 

OSHA/MSHA-mandated expenditures entail labor costs, such as 

time spent by workers learning safety procedures or the use 

of scientific personnel whose sole or main responsibility is 

to operate OSHA/MSHA safety equipment. If Congress decides 

to subsidize these costs, some method of monitoring such 

labor costs will be needed. 

Verifying that particular expenditures are directly 

attributable to OSHA/MSHA regulations would require on-site 

inspections. Invoices and evidences of payment, which are 

satisfactory for auditing deductions of normal business 

expenses, will not suffice to distinguish inputs required to 

comply with government regulation from inputs needed for the 

ordinary processes of production. In order for a compliance 

cost subsidy program to be administered effectively, 

technical personnel will be needed who are familiar with both 

the regulations and the regulated industries. 

In calculating the costs of complying with OSHA/MSHA 

regulations, it should be recognized that these regulations 

may also reduce market wages. Safer work places may cause 

wages and other personnel costs arising from illnesses and 

accidents to be lower than they otherwise would be. In this 

case, the gross compliance costs of OSHA and MSHA regulations 

could be offset by lower production costs. Determination of 
-18-

the net costs of OSHA regulations requires the identification 

of both gross compliance costs and offsetting reductions in 

personnel costs. These magnitude$ will be difficult to 

estimate with any precision. 

The remaining sections of this chapter analyze alternative methods of providing tax subsidies for the costs of 

complying with OSHA/ MSHA regulations. The next section 

examines the economic effects of different forms of compliance subsidies. The chapter concludes with a discussion of 

the effects of particular tax subsidies for capital such as 

special investment tax credits, tax-exempt bond financing, 

accelerated depreciation, and expensing. 

III. Economic Effect of Compliance Subsidies 

Subsidies may be provided for either gross or net 

compliance costs and may be based on all or only some 

components of compliance costs. This section illustrates 

that an efficient subsidy is one that subsidizes all 

components of net compliance costs. 

Suppose, for example, that gross compliance costs per 

unit of output were $70, composed of operating costs (labor 

and materials costs) of $40 and capital costs of $3 0 per 

unit. Expenditures to increase workplace safety may reduce 

other production costs to some degree. With a healthier work 

environment, the cost to employers of providing medical 

insurance to workers might fall by, say, $20. Training 

workers in accident prevention techniques could reduce annual 

capital costs by reducing damages to production equipment by 

$10. In this example, the gross and the net per-unit costs 

of mandated safety expenditures would be as depicted in 

Table 2-1. 
-19-

Table 2-1 

Annual Compliance Costs Per Unit of Output 

Component of Gross Cost Savings Net Compliance 

ComEliance Cost :ComEliance Cost: to Firm Cost 

Labor $40 $20 $20 

Capital $30 $10 $20 

Total $70 $30 $40 

The numbers in Tables 2-1 illustrate why only net rather 

than gross compliance costs should be subsidized. If the 

firm were entitled to receive a subsidy equal to 100 percent 

of gross compliance costs, it would receive a payment of $70. 

However, once cost savings are taken into account the actual 

net compliance burden is only $4 0. Thus, a 10 0 percent 

subsidy of gross compliance costs would over-compensate the 

firm by $30. 

Similar issues arise if compliance with regulations 

results in the production of a marketable output. For 

example, compliance activities may generate recycled inputs 

of value in production. It is also possible that some firms 

will develop patentable or marketable procedures for complying with existing or new regulations. In these cases, the 

gross cost of compliance will also overstate the actual 

compliance burden so that a 100 percent subsidy of gross 

compliance costs would overcompensate the firm. 

A further point is that subsidizing either gross or net 

capital costs but not labor expenses will encourage firms to 

substitute capital for labor in complying. Suppose, for 

example, that only net capital costs are subsidized at 100 

percent. Suppose further that the numbers in Table 2-1 

represent the 

regulations. 

least costly way of complying with safety 

If only net capital costs were subsidized, the 
-20-

firm would have an economic incentive to choose a more 

capital intensive but more costly means of compliance than 

that depicted in Table 2-1. An example of such an alternative is presented in Table 2-2, where the firm spends $100 

rather than $70 for compliance, $80 of which are capital 

costs, and $20 of which are labor and materials costs. 

Table 2-2 

Annual Compliance Costs Per Unit of Output 

Component of 

Compliance 

Costs 

Labor-Materials 

Capital 

Total 

Gross Cost Net Subsidy Net 

Cost of Savings :Costs to: Payments : Costs 

:Compliance: to Firm Society: to Firm :to Firm 

$ 20 

80 

100 

$ 20 

10 

30 

$ 0 

70 

70 

$ 0 

70 

70 

$ 0 

0 

0 

In choosing the alternative shown in Table 2-1, the firm 

would face net compliance costs of $40 and receive a subsidy 

of $20 (100 percent of net capital costs). By comparison, in 

choosing the more costly alternative shown in Table 2-2, the 

firm would face net compliance costs of $70 and receive a 

capital cost subsidy of $70. Clearly, the firm would be 

better off if it chose the compliance alternative shown in 

Table 2-2. However, society would be worse off because 

compliance with safety regulations would have been attained 

at a net cost of $70 rather than $40. This result occurs 

because the firm's incentive to minimize net capital costs is 

reduced by the subsidy. 

The type of inefficiency described above will vary in 

severity from firm to firm and from industry to industry 

depending upon the ease with which capital can be subsituted 

for labor in attaining compliance. Hence, subsidies based 
-21-

only on one component of net cost would provide uneven relief 

from compliance costs and would encourage firms to make 

economically inefficient responses to regulations. 

IV. Structural Problems With Tax Subsidies 

Subsidy payments by government can be made in either of 

two ways. The government can pay a firm directly for making 

a qualified expenditure. Alternatively, the government can 

reduce the firm's income tax by an equivalent amount. Either 

way, the subsidized firm and the government can end up in the 

same position. Either the firm has the direct cash receipt 

from the government or it is able to maintain an equivalent 

cash flow as a result of reduced tax payments. The government has provided a subsidy regardless of whether payment is 

made directly by cash outlays or indirectly through the tax 

system. However, there are important differences between 

these two means of payment. In general, tax subsidies have 

less desirable administrative and structural characteristics 

than direct subsidies. 

Tax subsidies bypass the normal budget process which 

provides Congress with an annual opportunity to review the 

effectiveness of the subsidy. If the subsidy is paid through 

the tax system t here may be no regular Congressional examination of its operation.§./ Furthermore, tax subsidies are 

generally open-ended in total amount. Moreover, once 

enacted, a provision of tax law is not easily changed. 

6/ Estimates of the cost of tax subsidies are annually 

reported as "tax expenditures" in the "Special Analyses" of 

the annual Budget, by the Congressional Budget Office, and by 

the Joint Committee on Taxation. However, tax expenditures 

generally receive less attention than direct outlays in the 

regular budget processes of the Executive Branch and the 

Congress. More scrutiny may be given to tax subsidies 

expiring due to sunset provisions. 
-22-

A subsidy program requires resources for administration in 

addition to the costs of the subsidy itself. If the subsidy 

is paid by the tax system, the IRS must administer the 

program, usually without additional resources to accomplish 

this task. It is often difficult to justify additional 

resources to administer tax provisions that result in 

collecting less tax revenue. 

Tax expenditures are generally made in tax-exempt dollars. 

Examples currently in the law inc! ude percentage depletion 

allowances, special investment credits, "rapid write-off" of 

investments in recycling and pollution control equipment, and 

tax-exempt bond financing of qualified facilities. Making 

subsidies tax-exempt understates the true cost of the subsidy 

as illustrated by the following example. 

Suppose that Congress decides to subsidize some qualified activity by providing a $10 payment per unit of output 

that must be included in the taxable income of producers. If 

the tax rates of these producers are 40 percent, then a $6 

subsidy paid in tax-exempt form, would be equivalent to a $10 

taxable subsidy. In both cases, the subsidy when combined 

with payments from const.m1ers would be sufficient to induce 

producers to expand the subsidized activity. The nominal per 

unit cost of the subsidy when paid in tax-exempt form, $6, is 

obviously lower than the $10 paid in taxable dollars. However, the real cost of the subsidy the resources attracted 

to the subsidized activity and away from other production 

is no more with a $10 subsidy taxable payment than with a $6 

tax free subsidy payment. Undoubtedly, this systematic 

understatement of costs encourages the use of tax subsidies. 
-23-

Moreover, tax subsidy programs almost always involve 

higher resource costs than direct subsidy programs that 

stimulate the subsidized activity to the same degree. Taxable subsidy payments stimulate productive activity in the 

same way as higher revenues from the sale of products in the 

market. Producers, in both cases, experience an increase in 

their before-tax returns, and the resulting increase in 

after-tax returns depends upon their particular marginal tax 

brackets. In other words, taxable subsidy payments, like 

income from the sale of goods on the market, provide lower 

after-tax returns to high bracket than to low bracket 

taxpayers. 

Tax-exempt subsidy payments can be set at a level 

sufficient to provide the same increase in income after tax 

as a market payment or a taxable subsidy only to producers in 

one particular marginal tax bracket. If a producer is in a 

higher marginal tax brae ket than this break-even bracket, 

tax-exempt payments provide a higher after-tax return than 

that available from market payments. Thus, if the tax-exempt 

subsidy is high enough to induce low bracket producers to 

engage in the subsidized activity, it would provide high 

income, high bracket taxpayers with a greater after-tax 

return than they would require from the market. The costs of 

these higher-than-required payments to high income producers 

do not arise in the case of taxable subsidies: it is for this 

reason that tax-exempt subsidies are a less effective and 

more costly subsidy mechanism. 

v. Subsidies for Capital Cost of Compliance 

This section considers specific tax subsidies that could 

be provided for the capital costs of compliance with 

OSHA/ MSHA regulations: special investment credits, taxexempt financing, rapid amortization, and expensing. In 
-24-

general, capital subsidies discourage firms from adopting the 

most efficient ways of complying with regulations by inducing 

them to substitute capital for labor. The specific tax 

subsidies discussed below have other undesirable characteri s t i c s as we 11 • 

A. Special Investment Credits 

The present 10 percent investment credit is not equivalent to a 10 percent subsidy for capital costs. First, 

investors are allowed to claim depreciation deductions on the 

portion of capital paid by the investment credit. Second, 

the credit provides a differential subsidy for capital assets 

depending on their expected 1 ives. Third, the investment 

credit depends on the firm's having taxable income. Because 

of these attributes, increasing the investment tax credit for 

compliance costs would be discriminatory and could lead to 

inefficiencies in methods of compliance. 

1. Effects of Depreciating the Amount of the Subsidy 

An investor who claims an investment tax credit is 

allowed to depreciate the full value of the asset, including 

the share paid for by the credit. 11 This provides the 

7/ When the investment credit was first introduced in 1962, 

taxpayers were required to reduce the asset's acquisition 

price, called the "basis" in tax accounting terminology, by 

the amount of credit allowable for purposes of computing 

future tax depreciation allowances. However, because the 

credit was limited by the tax liability of the taxpayer in 

the year the asset was acquired, some taxpayers were unable 

to obtain the benefit of the credit immediately. Nonetheless, 

the basis for tax depreciation was immediately reduced. This 

was regarded as unfair and Congress repealed the requirement 

of a basis adjustment in 1964. However, if the total credit 

could be claimed immediately regardless of tax liability, a 

basis adjustment could be required without creating these 

inequities. 
-25-

investor with tax deductions in excess of actual costs. The 

value of these excess deductions increases as the investor's 

tax rate increases. Thus, the current investment credit 

discriminates in favor of high income investors. 

Table 2-3 presents some calculations of the tax value of 

depreciation allowances for that portion of the purchase 

price of assets that is financed by a 10 percent investment 

credit. The purchase price of each asset is $1,000, thereby 

generating an investment credit of $100. Depreciation 

allowances on this $100 are calculated over the useful 1 ife 

using the sum-of-the-years-digits method. 

Table 2-3 

Present Value of Tax Depreciation Allowed on 

$100 of Investment Credit l/ 

Depreciable Life .. . . Tax Rate of Investor 

of the Asset .. . . 40 Percent 50 Percent 

6 years !:.I $22.40 $28.70 

6 years ~/ $33.55 $43.05 

10 years $29.50 $38.55 

15 years $22.50 $33.90 

.!/ The streams of depreciation deductions were discounted 

to present value using the after-tax rate of return for 

each investor. The before-tax return rate of return is 

assumed to be 20 percent so that the relevant after-tax 

returns are 12 percent and 10 percent, respectively, for 

investors facing a 40 percent tax rate and a 50 percent 

tax rate. 

f:./ For this calculation a 6-year asset receives two-thirds 

of the 10 percent credit. 

ll This calculation would apply if the 6-year asset were 

allowed the full 10 percent credit. 
-26-

To compute the amounts in Table 2-3, the present value of 

depreciation deductions allowed on the subsidized portion of 

the cost was calculated and the resulting figure multiplied 

by each investor's tax rate to obtain the value of the tax 

savings. It is readily seen that for a given asset life, the 

value of extra deductions is greater the higher the 

investor's tax rate. 

2. Unevenness of Tax Subsidies Across Asset Lives 

Allowing investors tax depreciation on the investment 

credit makes the value of the subsidy dependent on the tax 

life of the qualified property. For example, if the 

investor's tax rate were 40 percent, Table 2-3 shows that the 

tax value of depreciation on a 10 percent credit would be 

$29.50 for an asset with a $10 year life, but only $22.50 for 

an asset with a 15 year life. That is, for a given investor 

tax rate, the investment credit would discriminate against 

longer-lived assets. 

The current structure of rates for the investment credit 

is a further source of distortion. Currently, if the asset 

life is less than 3 years, no credit is allowed; if the life 

is 3 years, but less than 5, a credit of 3-1/3 percent is 

allowed; if the life is more than 5, but less than 7 years, a 

credit of 6-2/3 percent is allowed. 

3. Tax Liability Limitations 

The amount of investment credit that can be taken in any 

year is limited by the firm's tax liability for the year, 

although credits in excess of the amount that can be taken in 
-27-

one year may be carried back three years and forward seven.~/ 

The limitation imposed by tax liability on the use of tax 

credits provides an incentive to match activities that 

generate taxable income with those that create tax credits. 

Taxpayers unable to use the full amounts of credits earned 

would seek mer ger partners or leasing arrangements, two 

techniques for matching income and tax credits. 

B. Tax-exempt Bonds 

Another possible subsidy for capital compliance costs is 

to allow tax-exempt bonds to be issued to finance the 

acquisition costs of such assets. However, the value of the 

subsidy implic i t in tax-exempt borrowing varies arbi tr ar ily 

across firms according to their ability to substitute 

tax-exempt debt for either taxable debt or equity in their 

balance sheets. 

The same reduction in borrowing costs could be provided 

at lower cost to the government as a direct interest subsidy. 

Tax-exempt financing is more expensive than a direct subsidy 

because part of the revenue loss from tax-exempt bonds 

accrues to the benefit of high-income lenders rather than to 

borrowers of funds. 

taxable interest rates 

The spread between tax-exempt and 

generally on the order of 30 to 35 

percent -- indicates the gain to the borrower and also the 

break-even marginal tax rate at which lenders are indifferent 

between holding tax-exempt and taxable securities. The 

!!_! The present annual limitation on investment credit 

allowed is the first $25,000 of tax liability plus 80 percent 

of tax liability in excess of $25,000. Under provisions of 

the Revenue Ac t of 1978, the 80 percent figure will rise to 

90 percent beginning in 1982. 
-28-

government, however, loses more revenue than this-- perhaps 

40 percent or more of the taxable rate -- since purchasers of 

tax-exempt bonds include many investors in tax brackets above 

the break-even tax bracket. Thus, the government could 

provide a direct subsidy of 30 to 35 percent of taxable 

interest rates at lower cost than permitting the continued 

use of tax-exempt borrowing. 

C. Rapid Amortization of Investments 

Rapid amortization of investments allows investors to 

w.cite-off capital outlays more quickly than the usual rules 

for tax depreciation. This has the effect of deferring the 

payment of tax liabilities into the future and is equivalent 

to an interest-free loan from the government to the investor. 

For this reason, artificially fast write-offs amount to a 

capital cost subsidy paid through the tax system . 

One common form of rapid amortization is "5-year amortization". Instead of the tax depreciation pattern allowed 

under the Asset Depreciation Range (ADR} System, an investor 

may be allowed to write-off the cost of an asset over a 

shorter period. The gain provided by 5-year amortization 

depends both on the tax life of the asset and on the tax rate 

of the investor. The higher the tax rate and the longer the 

asset's depreciable life under ADR, the greater the value of 

the deferred taxes, and, therefore, the greater the gain. 

Table 2-4 presents illustrative calculations of the tax 

savings that result from deducting depreciation using 5-year 

amortization rather than the sum-of-the-years-digits method 

for assets normally depreciated over 10 years and 15 years. 

The cost of each asset is again taken to be $1,000. The 

stream of depreciation deductions was discounted to present 

value using the after-tax rate of return. The before-tax 

rate of return is assumed to be 20 percent. 
-29-

The amounts in Table 2-4 measure the benefit of 5-year 

amortization over tax depreciation. For a given asset life, 

these benefits are greater the higher the investor's tax 

rate. Similarly, for a given tax rate, the benefits of 

5-year amortization are higher the longer the depreciable 

life of the asset. 

Table 2-4 

Present Value of Tax Savings From 

5-Year Amortization for an Asset of $1,000 

Depreciable Life 

of the Asset 

10 years 

15 years 

D. Expensing Investments 

:: Tax Rate of Investor .. . . ---.4~0~P~e-r_c_e_n_,t----:--~5~0~P~e-r_c_e~n t---

$ 27.75 

$ 68.20 

$ 21.45 

$ 78.10 

Expensing is the limiting case of rapid amortization. 

Expensing permits a capital owner to write off an asset's 

entire acquisition price in the year in which the asset is 

purchased. Table 2-5 presents illustrative calculations of 

the additional tax savings resulting from expensing capital 

costs rather than deducting those costs using the presently 

allowable depreciation rules. The values in Table 2-5 are 

calculated under the same asswnptions underlying Tables 2-3 

and 2-4. 
-30-

Table 2-5 

Present Value of Additional Tax Savings From Expensing 

Depreciable Life 

of the Asset 

10 years 

15 years 

:: __ ~~T~a~x~R~a~t~e~o~f~I~n~vne~s~t~o~r~--~ 40 Percent SO Percent .. . . 

$108.50 

$145.20 

$118.35 

$161.15 

The tax benefits of expensing increase with the tax life 

of the investment and with the tax rate of the in~estor. 

Moreover, these differential impacts are relatively larger in 

the case of expensing than for 5-year amortization. 

VI. Summary 

Subsidies for the net cost of complying with OSHA/ MSHA 

regulations would be extraordinarily difficult to administer. 

In addition, the use of the tax system to provide compliance 

subsidies has a number of undesirable consequences: 

o Firms are encouraged to adopt compliance methods that 

are inefficient and excessively capital intensive. 

o Tax subsidies bypass the usual budgetary review and 

control processes of the Congress. 

o The true costs of tax subsidies are generally 

understated. 

o Part of the revenue loss is a benefit to high income 

taxpayers, rather than a subsidy for compliance costs. 
CHAPTER 3 

COST OF COMPLIANCE WITH OSHA AND EPA REGULATIONS 

I. Introduction 

This chapter presents 

regulations and regulatory 

quantitative 

costs. These 

information on 

data generally 

confirm the seriousness of the problems discussed in Chapter 

2. Most of the material presented here is based on information gathered by Arthur Andersen and Company for the Business 

Roundtable. / With few exceptions, the Andersen data 

measure gross, rather than net, compliance costs. 

These data demonstrate that gross compliance costs vary 

substantially across industries and even among firms within 

the same indus try. The division of compliance costs between 

capital and operating costs also varies significantly across 

industries and firms. The data also show that costs of 

compliance ar e incurred at different times by different 

firms. Hence, capital subsidies such as tax credits, rapid 

amortization, or tax-exempt financing provide unequal relief 

from the burden of government regulations. 

9/ A description of the methods and other results is 

presented in the report entitled Cost of Government 

Regulation Study published in March 1979 by Artfi""ur Andersen 

and Company. 
-32-

Many of the compliance expenditures reported in the 

Andersen study are difficult to distinguish from expenditures 

that could have been made for normal business purposes. 

Identifying the expenditures required by regulations entailed 

a high level of effort on the part of the Andersen Company 

and the participating corporations. This suggests that 

complicated regulations and specialized personnel would be 

needed to determine what expenditures would qualify for the 

subsidy payments. 

II. Description of the Data 

The Arthur Andersen study estimates the incremental 

costs -- costs in addition to normal production costs--that 

government regulation imposed on private industry in 1977. 

The study was limited to the costs imposed by six regulatory 

agencies--including EPA and OSHA--on 48 large participating 

companies, covering a wide range of American industry. 

Determining the incremental costs of regulation required the 

best judgment of knowledgeable company personnel. 

Incremental costs of regulation were defined in the study as 

the costs of a compliance action that would not have been 

taken in the absence of regulation. The collection of the 

cost data required 400 staff years of effort devoted to 

identifying compliance actions, determining the incremental 

cost of each compliance action identified, and documenting 

the compliance cost determinations. 

Key executives and financial officers of each of the 

participating companies then reviewed this cost information. 

After the reviews were completed and the cost estimates 

internally approved, the data were examined by Arthur 

Andersen and Company to ensure that all procedures were 

followed accurately. 
-33-

The Andersen study made no attempt to evaluate the 

benefits of regulation to society. The benefits of EPA 

regulation in terms of cleaner air and water are not 

subtracted from the compliance costs. Some compliance 

actions provide benefits to firms in the form of recoverable 

products. The Andersen study adjusted for such benefits when 

they could be determined from engineering and accounting 

records. No attempt was made, however, to adjust for 

reductions in personnel costs resulting from regulations that 

improve safety. Thus, the Ander sen study measured the gross 

costs of complying with OSHA regulations. 

Table 3-1 presents data on the 48 companies participating in the Business Roundtable study in relation to all U.S. 

companies in the same industry. Sales, capital expenditures, 

and the number of employees of the participating companies by 

industry as well as similar data for all U.S. companies are 

shown. As indicated by the last column of the table, sales 

of participating companies range from one percent of industry 

sales for Wholesale Trade to 71 percent for Communications. 

Total capital expenditures required to comply with 

mandates of regulatory agencies are often confused with the 

annual costs of using the capital required for compliance. 

Annual capital costs are usually a much lower figure, since 

the compliance equipment may last for several years. To 

compare capital costs with labor costs, this study annualized 

the information on capital expenditures. The method used to 

accomplish this adjustment is explained in Appendix B. 
Table 3- 1 

Sales, Capital Expenditures and Employment of Participating Companies as Compared to All Companies in the u .s. in 1977 

: Sales of Participating 

ParticiEatins Com~anies in Industrt : Cap1tal : Number o 

All O.S . Com2anies in tndustry :Companies as a Percent 

: Capital : Number of :of Sales of All u .s. 

Industry Description : sales :Expenditures: Employees Sales :Expenditures: Employees :Companies in Industry 

($000,000) : ~$000,000) : (000) {~000,000) : (~000 000) : (000) : {Percent) 

(1) (21 (3) (4) (5) (6) (7) 

Forestry 771 97 4 NA NA ]J NA NA 

Bituminous Coal and Lignite 223 93 3 17,020 [4,500] 21A 1 

Other Mining 327 75 4 14, 619 209 2 

Food and Kindred Products 9,403 198 58 191,887 4,180 1,720 5 

Lumber and Wood Products 4,401 193 39 NA 1, 240 642 NA 

Paper and Allied Products 4,654 sn 57 52,368 3,360 699 9 

Chemical and Allied Products 23, 90 7 2,836 260 113,891 6,830 1,058 21 

Oil and Gas 20,316 2,498 66 141,039 13,870 614 14 

Rubber and ~iscellaneous Products 4,934 225 86 36,955 1,450 675 13 

Stone, Clay, Glass and Concrete 2,888 175 50 35,274 1,990 652 8 

Primary Metal Industries 9,053 718 127 103,340 5,680 l.,204 9 

Fabricated Metal Products 1, 237 48 28 85,255 2, 290 1 , 452 1 

Machinery Except Electrical 15 , 871 1,820 307 119,008 5,760 2,187 13 

Electrical Machinery 20,727 700 408 85 , 759 3,280 1,936 24 

Transportation Equipment 51,352 3,157 637 170,739 5,320 1,797 30 

Instruments 4 , 020 289 75 28,570 1,190 527 14 

Railroad, Freight and Water Trans. 2,126 291 48 33,969 5,310 1.628 6 

Communication 29,403 11,047 805 41,309 15,450 1 , 16'/ 71 Electric and Gas Services 3,110 429 18 62,610 25,800 745 5 ~lholesale Trade 3,426 37 11 642,104 330 4,39!' 1 

Banking 9, 922 211 87 90 , 069 NA 1,342 11 

NA Not Available 

1/ Combined capital expenditures for U.S. companies in Other Mining, Bituminous Coal and Lignite, and Oil and Gas Extraction - Industries. 

Source: Report provided to the Office of Tax Analysis by Arthur Andersen & Co. under Treasury Contract OAP 79-43 . 
-35-

III. Statistical Findings 

A. Variations in Compliance Costs 

Table 3-2 illustrates the importance of three types of 

cost variations that will pose problems for subsidy design. 

First, regulations have a differential cost impact on 

different industries. Second, industries do not attain 

compliance with regulations at the same time. Third, capital 

costs vary as a share of total cost. 

Columns ( 1) and ( 4) present compliance cost as a percentage of sales for OSHA and EPA regulations respectively. 

The costs of complying with EPA regulations range from 3.10 

percent of sales for Electric and Gas Services to less than 

0.01 percent of sales for Communication and Wholesale Trade. 

Complying with EPA regulations costs more than complying with 

OSHA regulations. The cost of complying with OSHA regulations varied from 0.14 percent of sales in the Chemical and 

Allied Products industry to less than 0.01 percent in several 

industries including -- Forestry; Railroad, Freight and Water 

Transportation; Communication; and Wholesale Trade. 

Columns (2) and (5) illustrate why timing considerations 

present an important subsidy design problem. For projects in 

progress in 1977, data were available on capital expenditures 

made before 1977, during 1977, and those planned for future 

years. Planned expenditures as a percentage of total expenditures on these projects vary substantially by industry. For 

example, accord i ng to column 5, Chemical and Allied Products 

companies would make 57.4 percent of their capital expenditures to comply with OSHA regulations in the post-1977 

period, whereas Primary Metals companies would make only 31.1 

percent of such expenditures after-197 7. Thus, Chemical 
Industry 

Forestry 

Bituminous Coal & Lignite 

Other Mining 

Food & Kindred Products 

Lumber & wood Products 

Paper & Allied Products 

Chemical & Allied Products 

Oil & Gas 

Rubber & Misc . Products 

Stone/Clay/Glass & concrete 

Primary Metal Industries 

Fabricated Metal Products 

Machinery Except Electrical 

Electrical Machinery Transportation Equipment 

Ins tr umen ts 

Table 3-2 

Comparisons of Compliance Costs for Participating Companies 

EPA Regulat-ions : OHSA Regulations 

:Post-1917 CaplEal: Annual Cost of : : Post-197/ Capltal: Annual Cost of 

: Compliance: Expenditures as : Capital as a :Compliance: Expenditures as : Capital as a 

: Cost as a: a Percent of : Percent of Total : Cost as a: a Percent of : Percent of Total 

:Percent of: Total Capital :Annual Compliance :Percent of: Total Capital :Annual Compliance 

Sales : Ex~~~!~~r~~--~-------~Q~~-------~--~~!~~---~ ___ Expenditures : Cost (1) (2) (3) __ __ _ _ _ _ __ _ __ (4-,- ------~(5} (6} 

.01 % 0.0 % 92.2 ' * * 100.0 ' . 07 0.0 100.0 NA NA NA 

.32 4.4 85.3 NA NA NA 

.03 57.8 75.8 . 01 % 18 . 6 % 95.8 

.74 27.1 83.1 . 01 26.5 96.5 

1.41 42.6 72.3 .02 37 . 9 96.8 

1.85 33.6 75.0 .14 57.4 83.4 

1. 21 14.3 81.8 .02 20.9 91.1 .18 46.4 76.8 .09 32.4 84.3 

.33 32.7 70.4 . 02 20 . 2 90.9 

1.82 32.2 75.0 .09 31.1 70 . 9 . 15 38 . 1 68 . 4 .04 14.2 94 . 8 .16 34.1 85.0 .02 16.6 93 . 7 . 08 33.9 83 . 5 .09 54 . 5 8 5.1 . 11 50.9 99.2 .03 16.5 92 . 1 . 34 13.8 64.0 .01 21.4 81.1 

Railroad/Freight/Water Trans. . 09 23.8 78.7 * 6.3 65.6 

Communication * 80.2 71.7 * 4.8 99 . 8 

Electric & Gas Services 3.10 55.4 81.4 * 2. 7 100.0 

Wholesale Trade * 0.0 100.0 * 0. 0 100.0 

Ban king NA NA NA * 0.0 93 . 2 

All Participating Companies .56 3 2.9 78.3 .04 45.7 84.0 

* Less than .005 percent . 

NA Not Available 

Source : Report provided to the Office of Tax Analysis by Arthur Andersen & Co. under Treasury contract OAP 79-43. 
-37-

companies would receive relatively more relief from compliance costs than the Primary Metals companies if a subsidy 

were only for capital expenditures in the post-1977 period. 

The timing of a subsidy program is an important consideration if the subsidy is to be equitable in the sense of 

providing the same benefits to similarly situated firms. The 

best time to put the program in place is when the regulations 

are being introduced or tightened. For example, if Congress 

decided to institute a 10 percent capital grant as a subsidy 

for EPA compliance costs in the post-1977 period, the subsidy 

would cover 8 percent of the total capital expenditures 

required for compliance in the Communication industry and 

none of those expenditures in the Forestry industry. 

The division of total compliance costs between capital 

costs and operating expenses also varies considerably from 

industry to industry for a given regulation. This variation 

is illustrated by the data in columns (3} and (6) of Table 

3-2. Column ( 3) shows that the share of capital cost in 

total EPA compliance cost ranges from 100 percent in Wholesale Trade to 64.0 percent for Instruments. For OSHA 

regulations, Column (6} of Table 3-2 indicates that capital 

costs account for 100 percent of total annual costs of 

complying with OSHA regulations in Forestry, 83.4 percent in 

Chemical and Allied Products, and 65.6 percent in Railroad, 

Freight and Water Transportation. A 10 percent capital 

subsidy, if it applied only to capital costs and yet did not 

bias compliance towards capital intensive methods would 

reduce compliance costs by 10 percent in some industries and 

as little as 6.4 percent in the case of Instruments manufacturing. More detailed information regarding the percentages 

in Table 3-2 are given in Appendix A. 
-38-

B. Specific Cases of Cost Variation 

This section demonstrates that the variability in total 

compliance costs among industries remains as the regulation 

category becomes more narrowly defined . The following three 

case studies of regulation examine the costs imposed on 

particular industries by the EPA water pollution regulations, 

the OSHA toxic and hazardous substances regulations, and the 

OSHA occupational health and environmental control regulations. 

1. Variation Among Industries in the Cost of Compliance 

with Particular Regulations 

The first set of regulations examined are EPA water 

treatment regulations. These regulations establish effluent 

1 imitations by industry and are implemented by means of 

contracts between government agencies and private firms. 

Tab 1 e 3 - 3 shows the costs o f EPA w a t e r treatment 

regulations in Chemical and Allied Products and in Primary 

Metals. As indicated by the first column, complying with the 

water treatment regulations cost firms in the Chemical 

industry over twice as much per dollar of sales as firms in 

the Primary Metals industry. Also, a subsidy for capital 

costs introduced in the post-1977 period would provide 

relatively more relief to Chemical companies because a larger 

proportion of its capital expenditures were made in that 

period. Since the share of capital costs in total compliance 

costs is higher in the Primary Metals industry, a capital 

subsidy for compliance costs would provide more relief per 

dollar of compliance cost to Primary Metals than to 

Chemicals. 

Tables 3-4 and 3-5 present similar cost information 

regarding OSHA regulations for toxic and hazardous substances 

and for occupational health and environmental control. The 
Table 3-3 

Costs of Compliance with EPA Water Treatment Regulations, Selected Industries 

Industry 

Chemical & Allied Products 

Primary Metals 

:Post-1977 Capital Expenditures: 

Total Compliance Costs Per:as a Percent of Total Capital : Capital Costs as Percent of 

Thousand Dollars of Sales : Expenditures : Total Compliance Costs 

$ 4 . 95 

1.95 

Table 3-4 

26.9 l 

15.2 

64 . 9 ' 

71.0 

Costs of Compliance with OSHA Toxic and Hazardous Substances Regul ati ons, Selected Industries 

Industry 

Chemical & Allied Products 

Primary Metals 

Electrical Machinery 

Post-1911-capiEai-Expenaitures 

:Total Compliance Costs Per:as a Percent of Total Capital Capital Costs as Percent of 

:Thousand Dollars of Sales : Expenditures Total Compliance Costs 

$ 0 . 14 

0 . 03 

0.06 

Table 3-5 

58 . 4 ' 

64.2 

55.9 

82.6 ' 

56.0 

90.5 

Costs of Compliance with OSHA Occupational Health and Environmental Control Regula·tions, Selected Industries 

Industry 

ChemicaJ. & All led Products 

Primary Metals 

Electrical Machinery 

* Less than .005 

: Post-1977 Capital Expenditures: 

:Total Compl i ance Costs Per: a s a Percent of Total Capital : Cap i tal Costs as Percent of : Thousand Dollars of Sales : Expenditures : Total Compliance Costs 

$ 0.21 

* 

0 . 09 

60.6 ' 

6.3 

5.8 

97.7' 

100.0 

85.5 
-40-

toxic and hazardous substances regulations are designed to 

reduce worker exposure to a number of substances that are 

potential hazards to human health. The occupational health 

and environmental costs of regulations are designed to reduce 

worker exposure to excessive noise, fumes, and other health 

risks. The data generally reinforce the previous finding 

that variations in the size, timing and components of compliance cost are substantial even for a specific regulation. 

2. Variation in Capital Cost at the Firm Level 

Figure 3-1 shows how the share of capital cost in total 

cost varies for EPA water treatment regulations among nine 

selected firms in the Chemical and Allied Products industry. 

Total compliance costs increase from left to right in the 

chart. Capital costs as a share of total costs range from 42 

percent in the first company to 94 percent in the third 

company. The average capital cost share is 72 percent. One 

company is below this average by 30 percentage points and 

another is above it by 22 percentage points. So a subsidy 

for capital cost of compliance would provide uneven assistance to firms in the same industry. 

Figure 3-2 shows that the timing of a subsidy can be 

important for firms in the same industry. This is illustrated here by EPA water treatment regulations. The companies 

represented in the chart are ranked in order of total capital 

expenditures undertaken to comply with these regulations. 

The bars in Figure 3-2 indicate the shares of post-1977 

capital expenditures in total capital expenditures. On 

average, the companies made 20 percent of their total capital 

expenditures in the post-1977 period. There was, however, 

considerable variability around the 20 percent average. For 

example, the fourth Chemical company made 40 percent of its 

capital expenditures in the post-1977 period. 
Figure 3-1 Capital Costs as a Percent of Total Cost of Compliance with 

EPA Water Treatment Regulations, Nine Companies in the 

Chemical and Allied Products Industry.* 

100 

80 

60 

40 

20 

0 

r--

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2 3 4 5 6 7 8 

Companies numbered in order of increasing amount of compliance cost 

*Data are adapted from the Arthur Andersen & Co. Cost of Government Regulation Study 

sponsored by The Business Roundtable. 

Average 

I 

~:s;x.:~=~-:::::. :?.-;::::::·::;:;·: 

. ........... -.; ...... :-

=~=~=~=::::::::~ :::;:::::::::$:::: 

:::::::::::::::::::: 

:::::::::::::::::::· 

:::::::~=~==~==~ :::::~~::::::::::: 

:::::::::;:::~~: 

~~=~~:::::::::::: 

t::::::::::::::::::: 

•··•··•·•·•···••·•·· .:::;:::::·:::::·::: 

-:-.···:·~=·:·:!:•: :;::~:::::::::::::· 

:::::::*:::~::::: 

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::::::::~~=~=~== 

~=~~::::::~::::: ::::*::::::!:::::?. 

~*:::::::~::::::3 ::·:·:::-:;:::~~==== 

:=::=:::~::~:::::f =~::···:·:::::.:::: ·=:·:~:;;:::::::::: 

::::::·:::·::::::::-: 

·····:=-,:==~·::::. :-:::-:::·:·:·:·:·:· e!if'_•'!•V•'!•"•._•••• 

9 
Figure 3-2 Post 1977 Capital Expenditures as a Percent of Total Capital 

Expenditures for Compliance with EPA Water Treatment 

Regulations, Eleven Companies.* 

1001- ---1100 

801- ~80 

601- ---160 

40~ ~40 

Average :::::: :::: ~ l2o 

20 I ················· 

oL...-..j .. ~ 

Companies numbered in order of increasing total capital expenditures 

Chemical and Allied Products D . Prtmary Metals . 

*Data are adapted from the Arthur Andersen & Co., Cost of Government 

Regulation Study sponsored by the Business Roundtable. 

0 
-43-

Figure 3-3 illustrates the degree of variability in the 

composition of compliance costs between firms, both within 

and across industries, in complying with the OSHA toxic and 

hazardous substances regulations. Figure 3-3 portrays capital costs as a percent of total costs for companies in three 

industries: Electrical Machinery, Chemical and Allied 

Products, and Primary Metals. The average capital cost share 

is 83 percent of total cost. Two firms (4 and 5) have 

capital cost shares that are well below this average. 

Figure 3-4 shows that if a compliance cost subsidy were 

introduced in the post-1977 period, it would provide differential relief to firms attaining compliance with OSHA toxic 

and hazardous substances regulations at different times. The 

chart indicates that on the average firms made over 40 percent of the capital expenditures required to comply with 

these OSHA regulations after 1977, but there were marked 

deviations from this average. For example, firms 1 and 2 

made none of the capital expenditures required for compliance 

after 1977, whereas firm 6 made over 90 percent of its 

expenditures in the post-1977 period. Thus firm 6 would have 

obtained disproportionate benefits from a compliance cost 

subsidy program established in the post-1977 period. 

Figure 3-5 indicates the capital intensity of processes 

required to comply with OSHA occupational safety and environmental control regulations. On average, the share of capital 

costs in total cost for the 12 companies exceeded 90 percent. 

However, there is some variation in the composition of 

compliance costs among firms in two of the three industries. 

Capital costs account for 80 percent of the total costs for 

one chemical company (bar 3) and 100 percent for two others 

(bars 5 and 12). In Electrical Machinery, capital costs were 

about 85 percent of the total for two of the companies (bars 

8 and 10) and 100 percent for the others (bars 2 and 6). 
100 

80 

60 

40 

20 

Figure 3-3 Capital Cost as a Percent of Total Cost of Compliance with OSHA 

Toxic and Hazardous Substances Regulations, Eleven Companies.* 

0• [(((( 4 

Companies ranked in order of increasing amount of compliance cost 

~ Electrical Machinery Chemical and Allied Products 

*Data are adapted from Arthur Andersen & Co., Cost of Government 

Regulation Study sponsored by the Business Roundtable. 

11 

~ 

~ Primary Metals 

100 

80 

60 

40 

20 

0 
Figure 3-4 Post-1977 Capital Expenditures as a Percent of Total Capital 

Expenditures for Compliance with OSHA Toxic and Hazardous 

Substances Regulations, Eleven Companies.* 

1 00 I- ----11 00 

8o 1- r:=:::::::::::::::::l v / /// .11 ----1 80 

60 I- :: :::::::::::::::~ v //// ,;1 ---1 60 

Average 

40 

20 

0~ 

1 2 

Companies numbered in order of increasing total capital expenditures 

~ Electrical Machinery Chemical and Allied Products 

*Data are adapted from the Arthur Andersen & Co., Cost of Government 

Regulation Study sponsored by the Business Roundtable. 

40 

20 

0 

~ ~ Primary Metals 
Figure 3-5 Capital Cost as a Percent of Total Cost of Compliance with OSHA 

Occupational Safety and Health Regulations, Twelve Companies .* 

100 

Average 

80 

60 

40 

20 

0 I t,•,•.•,•,•,•,•,•• r < < < < 1 

Companies numbered in order of increasing amount of compliance cost 

~ Electrical Machinery Chemical and Allied Products 

*Data are adapted from Arthur Andersen & Co., Cost of Government 

Regulation Study sponsored by the Business Roundtable. 

111m~] Primary Metals 

100 

80 

60 

40 

20 

0 
-47-

Figure 3-6 shows that companies attained compliance with 

OSHA's occupational health and environmental control regulations at different times. The company represented by bar 12, 

a Chemical company, made over 90 percent of its required 

capital expenditures after 1977, whereas those represe nted by 

bars 3 and 5, also in the Chemical industry, made none of 

their capital expenditures after 1977. 
Figure 3-6 Post-1977 Capital Expenditures as a Percent of Total Capital 

Expenditures for Compliance with OSHA Occupational Health 

and Environmental Control Regulations, Twelve Companies.* 

100~ ~100 

80~ ~80 

~~ ~~ 

~~ ~~ 

Average 

20 

r ............. 3 o I :::;::·:;·:·:·;· 

2 3 4 5 6 

Companies numbered in order of increasing total capital expenditures 

~ Electrical Machinery Chemical and Allied Products 

*Data are adapted from the Arthur Andersen & Co., Cost of Government 

Regualtion Study sponsored by the Business Roundtable. 

20 

10 11 12 

0 

• • Pnmary Metals . 
APPENDIX A 

Tables of Compliance Cost Comparisons by 

Industry and Type of Regulation 
Table A-1 

Compliance Cost as Compared to Sales for Participating Companies 

Industr . . Sales 

:: {$000 ,000) 

II 

Forestry 771 

Bituminous Coal and Lignite 223 

Other Mining 327 

Food and Kindred Products 9 ,4 03 

Lumber and wood Products 4,401 

Paper and Allied Products 4,654 

Chemical and Allied Products 23,907 

Oil and Gas 20,316 

Rubber and Miscellaneous Products 4,934 

Stone, Clay, Glass and Concrete 2,888 

Primary Metal Industries 9,053 

Fabricated Metal Products 1,237 

Machinery Except Electrical 15,871 

Electrical Machinery 20,727 

Transportation Equipment 51,352 ll 

Instruments 4,020 

Railroad Freight and Water Trans. 2,126 

Communication 29,403 

Electric and Gas Services 3,110 

Wholesale Trade 3,426 

Banking 9,922 

TOTAL 222,071 

* Less than .005 percent. 

NA Not available. 

:: For Partfc1pat1ng Compan1es 1n Industry Group 

:: EPA Regulations :: OSHA Regulations 

:: Total : Compliance Cost :: Total : Compliance Cost 

::Compliance Cost : Per Dollar ::Compliance Cost: Per Dollar 

:: C$000) : of Sales ($) :: {$000) : of Sales ($) 21 --nl · -uJ · rs 

103 . 0001 6 * 153 .0007 NA NA 

1 , 054 .0032 NA NA 

2 , 855 . 0003 997 .0001 

32,564 .0074 227 . 0001 

65,757 . 0141 744 .0002 

441,160 .0185 34,133 . 0014 

245,438 . 0121 3 , 162 . 0002 

8.752 .0018 4 , 414 .0009 

9,607 .0033 617 .0002 

164,330 . 0182 7, 74 7 .0009 

1,809 .0015 539 . 0004 

24,898 . 0016 3,016 .0002 

15,902 .0008 18,051 .0009 

56,743 .0011 1,143 . OC03 

13,785 . 0034 465 .0001 

1,973 .0009 61 * 778 • 594 * 

96 , 496 . 0310 64 * 

6 * 3 * NA NA 59 * 

1,184,163 .0056 y 76,042 . 0004 y 

1/ All participating companies did not report OSHA costs. Those reporting OSHA costs had sales of $3,801 million. 

2! Obtained by dividing total EPA compliance costs by the sales of companies reporting EPA costs. 

~/ Obtained by dividing total OSHA compliance costs by the sales of companies reporting OSHA costs. 

Source: Report provided to Office of Tax Analysis by Arthur Andersen & Co. under Treasury contract OAP 79-43. 
Table A-2 

Timing of Total Capital Expenditures Required for Compliance with EPA Regulations, 

Participating Companies 

. . . . Iota.l Ca.~ita.l Expend:i:tm:es fer: ccmpl jance : : Post- 1977 Capital .. Industry . . : : : :: Expend itures as a .. :: Pre- 1977 : 1977 : Post- 1977: Total . . Per cent of 

. . . . ($000) : ($00(}) : ($000) (SIJOO) Total : .. 

(1) (2) (3) (4) (5) 

Forestry 0 272 0 272 0.0 % Bituminous Coal and Lignite 0 460 0 460 0.0 

Other Mining 759 1,822 120 2 , 701 . t.i.4 

Food and Kindred Products 1,415 1,479 3,963 6,857 57.8 

Lumber and Wood Products 38,110 16,955 20,502 75 , 567 27.1 

Paper and Allied Products 4?., 3 21 51,838 69,880 164 t 039 42.6 

Chemical and Allied Products 368,807 292,116 334,039 994,962 33 . 6 

Oil and Gas 5 371535 92,669 105,293 735,497 14. 3 

Rubber and Miscellaneous Products 6 , 921 5,161 10,439 22,521 46.4 

Stone , Clay, Glass and Concrete Products 6,267 91418 7,632 23,317 32 . 7 

Primary Metal Industries 171,951 133,443 145,307 450,701 32.2 

Fabricated Meta l Products 1,545 409 1,201 3,155 3 8.1 

Mach inery Except Electrical 23,754 18 , 145 21,676 63,575 34 . 1 

Electrical Machinery . 14 t 691 11 , 673 13,542 39 , 906 3 3.9 

Transportation Equipment 12 , 874 66 t 13 6 81,978 160,988 50 . 9 

Instruments 21,995 4 , 233 4, 206 30,434 13 . 8 

Railroad, Freight and Water Transportation 2,197 1 , 106 1, 032 4 , 335 23 . 8 

Communication 48 398 1,810 2 , 256 80 .2 

Electric and Gas Services 110,473 53,937 203,833 368 , 243 55 .4 

Wholesale Trade 0 16 0 16 0.0 

Source: Report provide:l to the Offioe of Tax Analysis by Arthur Andersen & Co. under Treasury contract ()M) 79-43 . 
Table A-'3 

Timing of Total Capital Expenditures Required for Compliance with OSHA Regulations, 

Participating Companies 

Industry 

Forestry 

Food and Kindred Products 

Lumber and Wood Products 

Paper and Allied Products 

Chemical and Allied Products 

Oil and Gas 

Rubber and Miscellaneous Products 

Stone, Clay, Glass and Concrete Products 

Primary Metal Industries 

Fabricated Metal Products 

Machinery Except Electrical 

Electrical Machinery 

Transportation Equipment 

Instruments 

Railr oad, Freight, and Water Transportation 

Communication 

Electric and Gas Services 

Wholesale Trade 

Banking 

~gtal Cseitsl ~xeengity,es u;.u,J;t'l:l ,LU,J; fQ{ CQm~lisn~e \,.UID!,!J.J,ance :: Post-1977 Capital . . . . Pre-1917 : 1977 : Post-1977 

($0002 : ~~000~ : ($000) 

(1) (2) (3) 

$ 0 $ 18 $ 0 

800 1,663 564 

48 402 162 

188 1,353 941 

11,770 24,690 49 , 067 

5,604 2,745 2 , 210 

3,512 4,914 4,040 

257 1,287 391 

9,793 4,081 6,248 

180 936 185 

845 6,239 1,408 

7,692 13,326 25,175 

239 2,273 497 

114 907 278 

31 73 7 

40 2,243 116 

0 292 8 

0 8 0 

0 158 0 

: 

: Total 

: ($000) 

(4) 

$ 18 

3, 027 

612 

2,482 

85,527 

10,559 

12,466 

1,935 

20,122 

1,301 

8,492 

46,193 

3,009 

1,299 

111 

2,399 

300 

8 

158 

::Expenditures as a Percent :: of Total 

(5) 

o.o% 

18 . 6 

26.5 

37.9 

57.4 

20.9 

32.4 

20.2 

31.1 

14.2 

16.6 

54.5 

16.5 

21.4 

6.3 

4 . 8 

2.7 

0.0 

0.0 

So'Circe: Report provided to the Office of Tax Analysis by Arthur .Andersen & co. under Treasury contract OAF 7,9-43. 
Table A-4 

Compos-ition of Annual Costs of Compliance with EPA Regulations, Participating Companies 

Industry 

Forestry 

Bituminous Coal and Lignite 

Other Mining 

Food and Kindred Products 

Lumber and Wood Products 

Paper and Allied Products 

Chemical and Allied Products 

Oil and Gas 

Rubber and Miscellaneous Products 

Stone, Clay, Glass and Concrete Products 

Primary Metal Industries 

Fabricated Metal Products 

Machinery Except Electrical 

Electrical Machinery 

Transportation Equipment 

Instruments 

Railroad, Freight and Water Transportation 

communication 

Electric and Gas Services 

Wholesale Trade 

. . Annual Cost-o-r::--An.nua l :--:--Total Annual-::- Annual Cost of·~ 

Capital :: Operating Cost ::Compliance Cost ::capital as a Percent 

{$ 000) :: {$ 000) :: {$ 000) ::of TotaL_AnnuaLCost 

(1) 

95 

153 

899 

2, 164 

27,076 

47,571 

331,024 

200,717 

6,725 

6,762 

122,996 

1,238 

21,151 

13,277 

56,314 

8,826 

1,553 

558 

78,509 

6 

(2) 

8 

0 

155 

691 

5,488 

18,186 

110,136 

44,721 

2,027 

2,845 

41 , 334 

511 

3,747 

2,625 

429 

4, 959 

420 

220 

17,9 87 

0 

(3) 

103 

153 

1,054 

2,855 

32,564 

65 , 757 

441,160 

245,438 

8,752 

9,607 

164,330 

1 , 809 

24,898 

15,902 

56,743 

1 3 ,785 

1,973 

778 

96 , 496 

6 

(4) 

92 . 2 

lflO. O 

85.3 

7S.8 

83.1 

72.3 

75.0 

81.8 

76.8 

70 . 4 

75.0 

68.4 

85.0 

83.5 

99.2 

64 . 0 

78.7 

71.7 

81.4 

100· • .0 

Source: Report provided to CJrA by Arthur Aniersen & Co. under contract <:.lP.P 79-43 . 
Table A-5 

Composition of Annual Costs of Compliance with OSHA Regulations, Participating Companies 

.• Annual-Cost of ::Estimated Annual:-:~Total Annual .. --Annual Cost of 

Industry .. Capital :: Operating Cost : :Compliance Cost :~apital as a Percent 

Forestry 

Food and Kindred Products 

Lumber and Wood Products 

Paper and Allied Products 

Chemical and Allied Products 

Oil and Gas 

Rubber and Miscellaneous Products 

Stone, Clay, Glass and C0ncrete Products 

Primary Metal Industries 

Fabricated Metal Products 

Machinery Except Electrical 

Electrical Machinery 

Transportation Equipment 

Instruments 

Railroad, Freight and Water Transportation 

Communication 

Electric and Gas Services 

Wholesal e Trade 

Banking 

:: ($ 000) . . 

(1) 

6 

955 

219 

720 

28,4 55 

2,882 

3,722 

561 

5,491 

511 

2,825 

15,369 

1, 053 

377 

40 

593 

64 

3 

55 

Source: Report provided to C1rA by Arthur Andersen & Co. under contract (:N) 79-43 . 

($ 000) .. ($ 000) : :ef Total Annual Cost 

(2) (3) (4) 

0 6 100.0% 

42 997 95.8 

8 227 96.5 

24 744 96.8 

5,678 34,133 83.4 

280 3,162 91.1 

692 4,414 84.3 

56 617 90.9 

2 , 256 7,747 70.9 

28 539 94 .8 

191 3, 016 93.7 

2,682 18 , 051 85.1 

90 1 , 143 92.1 

88 465 Sl.l 

21 61 65.6 

1 594 99.8 

0 64 100.0 

0 3 100.0 

4 59 93.2 
APPENDIX B 

Estimation of Annual Capital Costs of Compliance With 

Regulations 

were 

Companies participating in 

asked to estimate their 

the Arthur Andersen 

capital outlays and 

study 

the 

operating costs required for compliance with regulations. 

The distinction between capital and operating expenses is 

important for the analysis of public subsidies because subsidies are often applied only to one type of expense, or they 

are applied in different ways to each. However, data 

reported on outlays for the acquisition of capital goods, 

such as buildings, 1 and, and machinery, are not directly 

comparable to t he reported operating costs. Outlays to 

acquire capital describe a change in the composition of a 

company's assets but do not directly indicate the annual cost 

of financing the purchase or keeping the facilities productive. For comparability, it is necessary to develop an annual 

measure of capital cost to avo i d misstating the importance of 

these costs rel ative to operating costs. This appendix 

explains the method used to translate estimates of capital 

outlays into estimates of annual costs of capital. 

The elements of the procedure for annualizing capital 

expenses are shown in Tables B-1 and B-2 for the costs of 

compliance with OSHA regulations and EPA regulations 

respectively. The annual capital cost has three essential 

components. The first is the annual cost of interest paid to 

lenders for the portion of capital outlay financed by 

borrowing. The second component is depreciation~ and the 

third is the cost of income foregone by tying up equity for 

compliance purposes, rather than for the production of 

marketable output. 
-56-

The interest cost (column (1) of the tables) is based on 

an assumed rate of return to lenders of 10 per cent per year. 

The portion of capital expenditure financed by borrowing is 

taken to be uniformly 50 per cent, giving an annual interest 

cost per dollar of outlay of $.05 in all cases. 

Depreciation (column (2) of the tables) is the annual 

cost of maintaining the value of the capital facilities. 

This is estimated here to be a constant annual amount that is 

equivalent, in present value terms, to the deductions for 

depreciation allowed under the present ADR rules for tax 

depreciation. 10/ 

The cost of tying up equity is the opportunity cost of 

for ego ing income that could be earned elsewhere. Unlike 

interest payments, this cost must be adjusted for Federal 

corporate income tax. For these estimates, corporate equity 

is taken to earn a 14 percent return after-tax, an amount 

larger than the interest return to compensate for risk. 

Since, by assumption, half of each dollar of outlay is 

financed by debt, the other half would generate an annual 

after-tax return cost of $.07 (14 per cent on 50 cents). 

However, the full cost of equity is measured by the beforetax return so it is necessary to add the associated income 

tax. For a tax rate of 4 6 per cent, the s urn of the tax and 

the after-tax return, that is, the before-tax return is 

$.1296. 

A fourth computation is also included to account for an 

existing capital subsidy -- the investment tax credit. This 

subsidy has a nominal rate of 10 per cent, but it is 

effectively larger by 46 per cent (an amount equal to the tax 

10/ A relatively low rate of discount (6 per cent) was used 

to compute present values in recognition of the fact that 

present law allowances are roughly equivalent to actual 

depreciation only under conditions of mild inflation and, 

thus, of low nominal rates of return. 
-57-

rate) because depreciation deductions are 

portion of capital paid for by the subsidy. 

allowed for the 

The full effect 

of the investment credit is, thus, to offset 14.6 per cent 

of annual capital costs. This offset-- 14.6 per cent of the 

sum of the three components of capital costs -- is shown in 

column (5) of the tables as a negative item in annual capital 

cost. Total capital cost per dollar of outlay (column (6)) 

is, thus, the algebraic sum of the items in column (2)-(5). 

These annual measures of capital cost are used throughout the discussion of Chapter 3 as a means of comparing 

capital and operating costs. They are also used to give an 

appropriate basis for comparison with annual sales. 
Table B-1 

Capital Expenditures and Annual Cost of Capi·tal for Compliance with EPA Regulations-

---- --:: ---Tota1 --::----------Annua1-cos~-oo11ar-Qf capital :: Annual 

:: Capital :: : : Return : Investment : :: Cost of 

Industry :: Expenditures:: Interest :Depreciation: Before : Tax Credit : :: Capital 

----------------.:..:.:..: _ __,(~~.;;.0.;:,.0;::..0!...) _...:;:...:;: __ ....:1::.!- / :__ _____ 2,1 ____ :_ -~CIX~~ _3/ : 4/ : Total :: ($000) !n-- ( 2) (3) ( 4) ( 5) ( 6) ( 7 ) 

Forestry 272 . OS • 23 .1296 -.OS98 .3498 9S 

Bituminous Coal and Lignite 460 .OS • 21 .1296 -.0569 .3327 153 

Other Mining 2,701 . OS • 21 .1296 -.0569 . 3327 899 

Food and Kindr ed Products 6.8S7 .05 .19 .1296 -. 0540 .31S6 2,164 

Lumber and Wood Products 75,567 .05 • 24 .1296 -. 0613 . 3583 27,076 

Paper and Allied Products 164,039 .05 . 16 .1296 -.0496 .2900 47,571 

Chemical and Allied Products 994,962 .05 .21 .1296 -.OS96 .3327 331,024 

Oil and Gas 73S,497 . 05 .14 .1296 - . 0467 .2729 200,717 

Rubber and Miscellaneous Products 22,521 .05 .17 .1296 -.0510 • 2986 6, 725 

Stone, Clay, Glass, & Concrete 23,317 . 05 .16 .1296 -.0496 .2900 6,762 

Primary Metal Industries 450,701 .05 .14 .1296 -.0467 • 2729 122,996 

Fabricated Metal Products 3,155 .05 .28 .1296 -. 0671 .3925 1,238 

Machinery Except Electrical 63,575 . OS . 21 . 1296 -.0569 . 3327 21,151 

Electrical Machinery 39,906 .05 . 21 . 1296 -.0569 • 3327 13,277 

Transportation Equipment 160,988 .05 . 23 .1296 -.0598 .3498 56,314 

Instruments 30,434 .05 . 16 .1296 -. 0496 .2900 8,826 

Railroad, Fre i ght & Water Trans. 4,335 .05 .24 .1296 -.0613 .3583 1,553 

Communication 2,2S6 .05 .11 .1296 -.0423 .2473 558 

Electric & Gas Services 368,243 .05 .07 .1296 -.0364 .2132 78,509 

Wholesale Trade 16 . 05 ..:1! .1296 -. 0671 .3925 6 

All Participating Companies 3,149,802 • OS .17 .1296 -.0503 . 2945 927,614 

.!/ Based on a rate of return to lenders of 10 percent where half of the capi tal expenditure is financed by borrowing. 

2/ The annual cost of depreciation is estimated as an annual rate equivalent, in present value terms, to tax depreciation 

currently allowed under ADR. 

3/ The sum of income tax, at 46 percent, and after-tax return to equity of 14 percent, where half the capital expenditure is 

financed by equity . 

4/ The annual value of the investment tax credit is calculated as a 14.6 percent offset to all other elements in capital 

cost. See text for further explanation. 

Source: Report provided to the Office of Tax Analysis by Arthur Andersen & Co. under Treasury contract OAP 79-43 . 
r 

Table B-2 

Capital Expenditures and Annual Cost of Capital for Compliance with OSHA Regulations 

Total :: Annual Cost Per Dollar of Capital :: Annual 

Capital :: : : Return : Investment : :: Cost of 

Industry .. Expenditures :: Interest :Depreciation: Before : Tax Credit : :: Capital 

($000) :: 1/ : 2/ : Taxes 3/ : 4/ :Total :: ($000) 

(1) (2) (3) (4) (5) (6) ('7) 

Forestry 18 .05 . 23 .'1296 -.0598 . 3498 6 

Food and Kindred Products 3,027 .05 .19 .1296 -.0540 . 3156 955 

Lumber and wood Products 612 .OS . 24 .1296 -.0613 . 3583 219 

Paper and Allied Products 2,482 .OS .16 .1296 -.0496 .2900 720 

Chemical and Allied Products 85,527 .OS .21 .1296 -.0596 .3327 28,455 

Oil and Gas 10,569 .05 .14 .1296 -. 046 7 .2729 2,882 

Rubber and Miscellaneous Products 12,466 .05 .17 .1296 -.0510 .2986 3,722 

Stone, Clay, Glass, & Concrete 1,935 .05 . 16 .1296 -.0496 .2900 561 

Primary Metal Industries 20,122 .OS .14 .1296 -.0467 . 2729 5,491 

Fabricated Metal Products 1,301 . OS . 28 .1296 -.0671 .3925 511 

Machinery Except Electrical 8,492 .05 . 21 .1296 -.0569 .3327 2,825 

Electrical Machinery 46,193 .05 .21 .1296 -. 0569 .3327 15,369 

Transportation Equipment 3,009 .OS .23 .1296 -.0598 . 3498 1,053 

Instruments 1,299 .05 . 16 .1296 -.0496 .2900 377 

Railroad, Freight & Water Trans. 111 .OS . 24 .1296 -.0613 . 3583 40 

Communication 2,399 .05 .11 .1296 -.0423 • 24 73 593 

Electric & Gas Services 300 .05 .07 .1296 -.0364 . 213 2 64 

Wholesale Trade 8 .05 .28 .1296 -. 0671 .3925 3 

Banking 158 .OS .23 .1296 -.0598 .3498 55 

All Participating Companies 200,018 . 05 .19 .1296 -. 0546 .3195 63,901 

!I Based on a rate of return to lenders of 10 percent where half of the capital expenditure is financed by borrowing. 

2/ The annual cost of depreciation is estimated as an annual rate equivalent, in present value terms, to tax depreciation 

currently allowed under ADR. 

3/ The sum of income tax, at 46 percent, and after-tax return to equity of 14 percent, where half the capital expenditure is 

financed by equity. 

4/ The annual value of the investment tax credit is calculated as a 14.6 percent offset to all other elements in capital 

cost. See text for further explanation. 

Source: Report provided to the Office of Tax Analysis by Arthur Andersen & Co. under Treasury contract OAP 79-43.