Here’s how business really works, Mitt

In the first presidential debate, Mitt Romney continually repeated his belief that cutting the tax rates on individuals would encourage small business owners to hire more workers. He should ask Harvard Business School for a refund of his tuition if he truly believes this.

Basic accounting tells us that there are two ways to make money from a business — one can either take as much profit as possible out of the business in the short term, or reinvest the profit to grow the value of the business over the long term and take a single payout when the business is eventually sold. In reality, business owners are constantly evaluating how much they want to grow their business long term and how much they want to take in profit over the short term.

Profit is what is left from earnings after all the expenses are paid, and taxes are then paid on the profit. If taxes are low, it makes sense to business owners to take more profit out of the business because less of that profit will go toward taxes. If they take profit out of the business, they aren’t using that part of their business earnings to hire more workers. They aren’t growing their business when they take profit out.

On the contrary, if taxes are higher, it makes sense for business owners to reduce the taxes they pay (and their short term profit) by reinvesting in their business. Hiring new workers, buying new equipment, and expanding their facilities are expenses and are not taxed. If a business owner wants to pay less in taxes, all he has to do is grow the business and hire more workers. If he does it right, he will get a return on his investment down the road.

John Ritchie

Geneva