Late in the evening on Saturday, Aug. 16, in the final hours of their negotiations, the chairmen of the Senate and House conference committees
tentatively agreed to a House proposal eliminating tax deferral for U.S. companies operating foreign-flag ships. That decision, if it eventually becomes law, will have a telling impact on future U.S. investments in shipping.
Yet, compared with the numerous corporate tax revisions in the $120 billion package crafted by the conferees, the so-called Subpart F shipping tax issue is small potatoes. There are relatively few U.S. companies owning foreign-flag vessels, and the business itself has been wracked by overcapacity and low rates that have produced limited or non-existent earnings and profits in recent years. For 1987, a tax revenue estimate of more than $10 million a year, less than the cost of a single ship, may be over-optimistic.Clearly, Subpart F repeal was not tax revenue-driven. At least one U.S. maritime union was lobbying for repeal, arguing that it would somehow cause U.S. owners to turn to U.S.-flag vessels crewed by U.S. citizens. In addition, some tax staffers on Capitol Hill argued that shipping is a "taxless world" (which in some respects it is) and that taxing U.S. companies on a current basis would be the initial step in reforming that world.
The unions and staffers alike either ignored or refused to believe that vessels controlled by U.S. companies are available for national defense and national security purposes.
Last December, they won their way when the House Ways and Means Committee voted to repeal tax deferral on reinvested income, even though it had heard no testimony on the proposal and despite the lack of support for repeal by the administration.
In May the Senate Finance Committee reached the opposite conclusion, after hearing the arguments against repeal. The defenders of tax deferral stressed that repeal would do nothing to help U.S.-flag shipping which, because of costs three to seven times those of foreign vessels, is hopelessly non- competitive in the international bulk and other specialized trades.
With respect to the "taxless world" argument, the point was made that taxing U.S. companies whose competitors remain either untaxed or entitled to deferral for reinvestment could only drive Americans out of the business.
Finally, it was emphasized that U.S.-controlled foreign-flag ships are under effective U.S. control and are relied upon by this nation's defense planners to augment available U.S.-flag tonnage in time of war or national emergency, both in support of military operations and in transporting critical raw materials needed to fuel this country's industrial base.
These arguments carried the day in the Senate, but apparently were lost in the shuffle when the chairmen of the conference committees resolved the last of the outstanding issues in the tax bill. As can happen in such harried, last minute negotiations, Subpart F repeal presumably was traded off for other issues having nothing to do with shipping. As a consequence the union lobbyists can claim victory, but the only real winners will be foreign shipowning interests.
The losers are easy to identify. Heading the list are the U.S. shipowning companies (and their U.S.-based employees), which will have basically three choices open to them in the future.
First, they can continue their shipowning operations as before, and attempt to compete in a high risk, capital intensive business with after-tax
dollars worth 66 cents while their foreign counterparts continue to amortize, upgrade and expand their fleets with full-value dollars. Under this scenario, the prospects of a lower return on investment by U.S. companies and the obvious tax advantage enjoyed by foreign owners will surely discourage future
investments by the former. If they cannot renew and modernize their fleets on the same terms as their competitors, they will eventually lose their market position and many will be forced out of the business.
A second choice is to transfer majority interest in the shipowning company to foreign interests. This would handle the tax problem. But it would be at the expense of control by Americans. For some this may be a distasteful but necessary option.
Obviously the third choice is simply to liquidate the fleets, and, if necessary to meet their own shipping requirements, to rely on tonnage chartered from foreign owners.
There are numerous variations on these three approaches, and some companies may have other options open to them. But the bottom line is that
repeal of the ability of U.S. companies to meet foreign competition on an even playing field will, under the inexorable laws of the marketplace, cause many U.S. shipping companies sooner or later to be squeezed out of international shipping, particularly in the bulk and cruise trades. That process will predictably spill over and dampen future prospects for U.S.-flag vessels, simply because many of the companies detrimentally affected by repeal of Subpart F also operate U.S.-flag vessels, and in many such cases the economic viability of each fleet is inextricably linked to the other.
Obviously another loser will be this nation's emergency sealift capability, which has already been acknowledged to be marginally inadequate. At last count, 302 effective U.S. control vessels can be requisitioned, used or chartered in a national emergency to supplement available U.S.-flag tonnage, which itself is in a state of decline. As the effective U.S. control fleet dwindles because of a legislated tax disadvantage, no U.S.-flag replacement tonnage will be available to maintain sealift capability at an acceptable level.
It is bad enough to see U.S. participation in international shipping curtailed by the marketplace, as it has been throughout the 1980s, but squandering U.S. shipping assets by legislative fiat is a case of this country shooting itself in the foot. The pain may not be fully felt until a national emergency arises, when the ships and the companies that operate them are needed but may no longer be there.