IT industry could be blindsided by fiscal cliff

As Congress continues to debate how it should prevent the federal government and national economy from plummeting off the so-called fiscal cliff at the end of the year, many technology companies - particularly smaller businesses and startups - may be unprepared for the ensuing changes.

Unfortunately for them, it may be too late to do anything about it.

How the fiscal cliff affects IT

The term "fiscal cliff" refers to a combination of changes in tax laws for private businesses and massive cuts in spending for federal agencies, many of which are slated to take effect at the beginning of January. With a projected fiscal impact of $US534 billion for fiscal year 2013, the Congressional Budget Office estimates that these changes could increase the risk of economic recession next year in the form of a 0.5% drop in real gross domestic product and a potential return to 9.1% unemployment within the next year.

For IT businesses, the fiscal cliff could mean higher taxes on research and experimentation than were imposed prior to 2011, a $114,000 decrease in tax provisions allowing small businesses to write off asset-related expenses, and the disappearance of a bonus first-year depreciation on expenses that stood at 100% as recently as 2011. More information on the impact of the fiscal cliff policy changes on the IT industry is available here.

However serious these potential changes are, many in the IT world may not have been paying close-enough attention to avoid falling victim to them. Last month, nonprofit IT trade association CompTIA released a whitepaper showing that while 65% of its responding members believe the fiscal cliff should be approached with a combination of spending cuts and revenue increases, another 17% said they didn't know or were undecided.

Lamar Whitman, director of public advocacy for CompTIA, attributes this significant lack of knowledge to a combination of factors common in the IT industry. Quite simply, IT startups and small businesses may be too preoccupied developing and selling their products to stay abreast of changes in tax provisions, Whitman says.

"Some of these may be relatively small businesses, let's say 10, 20 or 30 employees, and I think that's the reason for it," Whitman says. "I don't know that they have thought about it and just couldn't come up with an answer" to the survey question.

However, it's not likely that those running small IT businesses are keeping up with the developments in their free time, Whitman says.

"My experience within our membership is that not all of our companies have a huge amount of political interest, so not all of our companies follow it day-to-day," he says.

Of course, those who did seek out information on the fiscal cliff were misdirected by the politicians charged with preventing it, Whitman says.

"Our whole nation has been preparing for this, saying 'we won't go off the fiscal cliff' - both sides saying 'we won't go off the fiscal cliff.' I'm not really sure that businesses have stepped up to the plate and prepared for the possibility that we might go off the fiscal cliff," he says.

Whitman says, at this point, "This is not something that you can just retool your business for." 

Richard Davis, managing director covering enterprise software for investment bank Canaccord Genuity, says that although IT companies have options to help soften the blow, smaller margins in 2013 may be inevitable.

"I think there's sand going into the gears of every company," Davis says. "Does it cause the engine to completely grind to a halt? No, but it probably slows it down."

Specifically, Davis says the vendors most likely to lose business are those that can't prove an exact return on investment for their products.

"If you deploy the software and you say 'when you deploy the software everyone is going to be more efficient,' in other words, [users] can share better and those kinds of things, those are harder to prove because there's no hard-dollar ROI," Davis says.

Just like any other business, those in IT should have been more aware of these threats earlier on, and should have begun diversifying in preparation for the financial impact, Whitman says. However, given the conversation among elected officials, it's not a surprise that these businesses have been caught off-guard.

"Those businesses should have been branching out and looking for non-government-type business," Whitman says. "But I don't think that a lot of companies have really believed that this would happen, and we're still told to believe that it won't happen by our politicians."

CompTIA has addressed the federal government about the impact of its measures on the IT industry, specifically regarding the loss of funding for information technology training and educational programs. However, Whitman says some members of Congress appear to be as ill-informed about the full reach of the fiscal cliff policy changes as the private businesses assuming the risk.

"We have gone to speak to Senatorial offices or offices from the House of Representatives on this particular issue," Whitman says. "It's an 'aha' moment [for them]. It's like 'wow, they didn't know that.'"

Colin Neagle covers emerging technologies and the startup scene for Network World. Follow him on Twitter https://twitter.com/#!/ntwrkwrldneagle and keep up with the Microsoft, Cisco and Open Source community blogs. Colin's email address is cneagle@nww.com.

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