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Analyst Note Autofacts ® December 2012 The Fiscal Cliff & the Auto Industry Will the threat of another downturn derail progress? While the US government remains locked in debate regarding the merits of sequestration, the auto industry continues to outpace the greater economy in recovery. Even in a worst case scenario, the sector should endure only minor body damage. U.S.: Average Household Income for New Vehicle Purchases h 2012 (US$ thousands) $100 Passenger Car $80 Light Truck CUV $98 $97 $83 MPV $60 $67 $ $40 US M U.S. Median di H Household h ld IIncome: $50 $50,054 054 $20 $0 Average Buyer's Household Income Source: Ward’s Automotive Data, 2012 US Census Bureau Inching closer to the edge The Fiscal Cliff is a combination of spending cuts and d tax iincreases set to take k effect ff on January 1, 2013 unless the U.S. Congress and the Obama Administration can forge some sort of agreement. While it remains uncertain if and when a deal will be reached, the degree to which the automotive sector will be affected is a primary concern to all industry participants. An important note to highlight is that, should the deadline pass without resolution, l ti any subsequent b td deall could ld hypothetically be applied retroactively, thus limiting any lasting economic impact on the industry if the cliff is indeed breached. There are several components to consider: Bush-Era Tax Cuts. Initiated in 2001 and subsequently revised in 2003 and 2010, a myriad of tax cuts and credits were enacted that effectively lowered income tax rates across income brackets in the U.S. Should the Fiscal Cliff be breached, credits will ill expire i and d tax rates will ill iincrease and d revert to the Clinton-era rates which, on average, are 3-5% higher. While both Republicans and Democrats generally agree that these tax cuts should be extended for the lower and middle class, the main sticking point lies with extending the cuts for individuals making more than $200,000 annually, and households with more than $250,000 in combined income income. Assuming onl only this group will ill be affected, the impact on new vehicle sales will be minimal, as those within the top brackets would be expected to have sufficient cushion to absorb increases in taxes. Payroll Tax Increase. In order to help stimulate economic growth, Congress passed two payroll tax reductions from 2011-2012, lowering the employee payroll ll tax ffrom 6.2% to 4.2%. This hi rate iis set to return to the 6.2% rate on January 1, 2013 and there seems to be a mixed range of support to extend the payroll tax deductions for another year. Regardless of whether or not the reductions are extended, the impact on the automotive industry would be minimal, aside from a potential slight shift to used vehicles based on reduced available i income. Spending Cuts. Along with the various tax increases are a litany of spending cuts that are significant in both proposals. The bulk of these cuts come from entitlement reform as well as a reduction in military spending. While a definitive total balance of military-related spending cuts in initial drafts from both sides are somewhat vague and debatable, the bottom-line impact on the auto industry should be minimal. While select OEMs (continued on page 2) For information regarding our products and services please visit us at www.autofacts.com Analyst Note have ties to militaryy vehicle development, p much of the proposed defense spending cuts stem from ending the wars in Iraq and Afghanistan. This withdrawal, and the corresponding decrease in deficit spending used to finance both wars, has been previously agreed upon, leaving a net effect that is substantially less impactful than the suggested cuts imply. In terms of influence on the automotive outlook, Autofacts does not anticipate a significant, or even U.S.: Estimated Fiscal Cliff Tax Impact 2013 Up to $20K U.S.: Tax Rate Changes Effective Jan 1, 2013 2013 over 2012 $1,231 $1,984 $40K to $64K $64K to $108K $3,540 $ , $108K and up Income Tax Increase (2013 vs 2012) Tax Change $412 $20K to $40K moderate impact p on automotive sales barring ga long, drawn-out standoff in negotiations. Even with fluctuations in consumer confidence stemming from fiscal cliff uncertainty, pent up demand for new vehicles and readily available financing at historic lows should continue to drive new vehicle sales. Overall, both the automotive sector and national economy as a whole should be better off having clarification and resolution to move forward. $14,173 Expiration of “Bush Era” tax cuts* $166 billion Expiration of payroll tax holiday $125 billion Alternative Minimum Tax patch removal $88 billion Expiration of business expensing $48 billion Expiration of other tax “loop loop holes” holes $40 billion New Affordable Care Act taxes $36 billion Expiration of 2009 stimulus $11 billion Total Tax Increases Average Tax Increase Source: The Tax Policy Center * Includes estate tax increases $514 billion Source: The Tax Foundation North America: Assembly Scenario Forecast 2011 – 2015 (millions) Upside Scenario 20 • Real GDP growth surpasses expectations for the next 12 to 18 months upon news of an amenable fiscal cliff deal. 19 18 • Even if the fiscal cliff is avoided, the upswing to auto will lik l be likely b muted t d as th the auto t iindustry d t continues ti tto outt perform the economy. 17 16 Downside Scenario 15 • Economic malaise continues due to a fiscal cliff stalemate, with a possible recession in early 2013 if the full cuts hit, and limited growth with partial cuts. 14 13 2011 2012 Scenario Range 2013 2014 Baseline 2015 • With inventory levels near or above their preferred levels, a drop in sales would likely necessitate a larger d decrease iin assembly bl to k keep iinventory under d control. l Source: 2012 Q4 Autofacts Data Release © 2012 PricewaterhouseCoopers LLP, a Delaware limited liability partnership. All rights reserved. PwC refers to the US member firm, and may sometimes refer to the PwC network. Each member firm is a separate legal entity. Please see www.pwc.com/structure for further details. This content is for general information purposes only, and should not be used as a substitute for consultation with professional advisors. Autofacts is a registered trademark of PricewaterhouseCoopers LLP. For information regarding our products and services please visit us at www.autofacts.com