But the failure of the Senate and Administration proposals, coupled with major defeats for the Internal Revenue Service in the Tax Court, indicate that these subsidies are firmly entrenched. Most U.S. taxpayers know that they can take depreciation deductions on business assets - deductions based on asset cost that correspond to the reduction in value of the asset due to wear and tear or obsolescence. Most of us also know that we can take bigger deductions in the first years after we buy a business asset. That is, we can accelerate depreciation for tax purposes and therefore enjoy lower tax bills earlier on. Yet these large numbers overestimate the true amount of tax subsidies enjoyed by asset holders.
Accelerated depreciation is designed in part to counteract the effects of inflation.
For good accounting reasons, people must base depreciation deductions on the purchase price of an asset. Straight-line depreciation thus underestimates the annualized cost associated with a depreciable asset when inflation is present. But we have had relatively lower inflation in the past few years than during the period in which the tax authorities crafted the accelerated depreciation rules. Some portion of the tax expenditure currently attributable to accelerated depreciation should therefore be considered a taxpayer subsidy. Corporate tax return data indicate that the petroleum industry accounts for about 4.7 to 4.8 percent of depreciation deductions and about 12.6 percent of depreciable assets.