The Intersection of Tech & Tax Reform Explained by Francois Hechinger

Roughly 93 percent of technology CFOs say that the national tax reform that was signed into law in December 2017 will have a significant effect on their business. But whether it’s positive or negative remains to be seen.

“This law was something that was done in two months, and there are a lot of moving parts that not everybody understands,” explains Francois Hechinger, a tax partner for BDO USA, which provides tax, accounting, and advisory services to clients throughout the country. “We’re getting some answers now, but it’s going to take some time to have all the issues addressed. Companies are going to have to be patient to see how this plays out.”

The new law represents one of the biggest changes to tax policy in decades, and Hechinger says there are a number of important revisions, particularly for tech companies. Perhaps the most notable is the reduction of the corporate tax rate from 35 percent to 21 percent. Although the tech industry’s average effective corporate tax rate was already less than 35 percent—mainly as a result of lower foreign tax rates applicable to activity of overseas subsidiaries and the indefinite reinvestment of those earnings abroad—many companies still stand to benefit from the reduction.

Other positives for tech companies include the creation of a quasi-territorial tax system, an “exemption tax system,” which features exemptions for dividends received by domestic C-corporations from foreign subsidiaries. This could prompt some companies to bring back earnings from foreign subsidiaries.

Nevertheless, there are some provisions that could pose challenges—particularly for emerging or start-up tech companies. For example, the new tax law eliminates the ability to carryback net operating losses. Hechinger notes that tech company earnings are often volatile, and restrictions on the carryback and use of net operating losses could present a cash flow challenge and hamstring emerging companies. The law’s change to the research and experimentation tax deduction—which requires companies to write-off research expenses over a longer period of time—could also have consequences on tech companies that are heavily invested in research work.

It’s plenty to digest, and Hechinger says companies—not to mention the IRS and the US Department of Treasury—need time to understand what the new law means. In spite of those questions, however, Hechinger says companies should start planning.

“Learn as much as you can,” he says. “There were a lot of changes that occurred in the time it was put together, and clarifications are in development. There are a lot of questions that need to be resolved, but we’re being proactive with our clients to address their needs and opportunities.”

In its preliminary assessment, BDO notes that there is general optimism around tax reform’s impact on the industry—particularly around the corporate rate reduction. The company also expects that the reduction will help fuel a positive deal flow environment this year. However, not all tech companies will come out as clear winners. The total effect of domestic and international changes remains to be seen, and at press time, BDO was still awaiting spring earnings reports to be some of the first indicators of overall impact.

What is more certain, Hechinger says, is that the tech industry has a lot working in its favor, including a robust economy, ample funding, and a great deal of innovation. With that in mind, it’s important that companies don’t forget about all the people and processes who are fueling that innovation.

“One thing we see time and again is a rush to shore up critical internal and operational functions before a big milestone,” Hechinger says. “As companies are scaling up, it’s easy to just focus on the product or service, but it’s critical not to forget about the people and functions behind the scenes that will power you for successful growth and help avoid hiccups.”

Tech CFOs have told BDO that understanding the overall impact of reform on their business would be their biggest tax-related challenge in 2018, and Hechinger points out it could take several years to fully assess the impacts of the new law as revisions continue to be made to the legislation. With that in mind, Hechinger says it’s important not to make hasty decisions to take advantage of new benefits or avoid losing money to some of the new restrictions. “Don’t make decisions on a whim,” he says. “You have to spend the time looking at this. We had clients that wanted to switch from a C-corp to a partnership as of January 1. We have to tell them we have to understand what’s going on with the new format, and there are still a lot of moving parts. A switch to a corporation from a partnership is easier to do from a tax cost perspective, but going back to a corporation can be expensive.”

Photo: Jeremy Sharp/BDO USA, LLP