Verizon tax bill raises concerns
By James S. Granelli
Los Angeles Times
As the United States' biggest telephone company, Verizon Communications Inc. has wrestled with growing competition from cable operators, a slowdown in its conventional landline business, costly network upgrades and a weakened stock price.
Here's one way deferred taxes work. A company buys a service truck for $20,000. The government, wanting to encourage more capital equipment purchases, create more jobs and invigorate the economy, lets the company deduct a portion of the purchase price from taxable income each year for four years. Under tax accounting, the company depreciates, say, 75 percent or $15,000 of the purchase price in two years, giving it more cash and a higher income in those initial years. But in its public filings, it would deduct 25 percent each year from taxable income, or $10,000 after two years. At that point, the company has taken more deductions on its tax forms than the truck is worth, creating a deferred tax liability. Should it then sell the truck for $10,000, it would owe taxes on the $5,000 difference. Should it keep the truck for four years, it would take much less of a tax deduction in the final two years, meaning it would have less of a deduction and pay more in taxes. After four years, the value on both tax and public filings would be zero, and the company could junk the truck and owe nothing in taxes, or it could sell it and pay taxes on the sale price.
Now, some Wall Street analysts are questioning the rapidly rising amount of money Verizon owes Uncle Sam. For years, Verizon has deferred certain taxes, helping the company's financial statements look rock solid. Those deferred taxes have grown fivefold in five years to $22.1 billion, the highest in the Dow Jones index of 30 industrial companies.
An example of Deferred taxes
So when Chairman Ivan G. Seidenberg insists that Verizon enjoys the "strongest balance sheet in company history," analysts like Daniel Berninger of Tier 1 Research aren't necessarily persuaded.
"This is going to be a big story this year for a number of companies because they can't get around paying it off," said Berninger, who wrote a recent report on Verizon's tax situation. "The problem is that it's a manipulation of the balance sheet and a lack of transparency. This is a terrific rock to hide things under."
He and others wonder whether Verizon's publicly reported earnings have been too rosy and whether the tax bill might drag down future earnings. The deferred liabilities amount to a tax-free government loan, they say, and the company will have to pay it back at some point.
Perhaps so, but probably not in cash and probably not soon, if ever, according to Verizon executives. And the tax debts were amassed at the federal government's urging, they say, noting that Washington wants companies to invest in equipment and spur the economy.
"Deferred taxes arise out of the normal course of business," said company spokesman Robert A. Varettoni. Anyway, he added, the debt will remain more or less steady for years.
That's because a company that is growing and spending money on property, equipment, leases and other assets can depreciate the value of those assets much faster on income tax forms than on public financial statements. The resulting timing difference generates deferred tax liabilities.
Confused?
Welcome to the world of deferred tax liabilities, "one of the most complicated parts of the entire financial statement," said Jill Lehman, a senior analyst at the Center for Financial Research & Analysis.
Typically, public companies want to show investors that they are making huge profits — but want to show the Internal Revenue Service that they are barely breaking even so they can reduce their tax bills.
Verizon, for instance, used accelerated depreciation, along with losses from the sale of properties and other tax benefits, to obtain a refund of $713 million from the IRS in 2003 — while it reported in public Securities and Exchange Commission statements that it earned $3.1 billion and deferred $2.2 billion in taxes.
That was an unusual year, according to the company. In the previous two years, it paid a total of $1.5 billion in taxes.
Companies usually don't write checks to the IRS to pay deferred taxes. Instead, they take fewer deductions on future tax filings and, therefore, pay more taxes then.
And when the value of their properties drop, they can write off the amount as an impairment, creating tax benefits that can be used to reduce deferred taxes.
Verizon valued its plant property and equipment at $183.4 billion at the end of September and had written off $109.9 billion as depreciation, leaving it with enough room to write down assets further and reduce deferred taxes, said Berninger.
Although such corporate accounting is normal, what worries some experts is that the aggressive use of deferred taxes can mask actual income.
