So Romney is getting into trouble for at one point in time observing the verifiable fact that 47% of Americans don’t pay personal income taxes. (Or, to state it more accurately, 47% of Americans did not have any income tax liability.) Perhaps now would be a good time to observe that 47+% of Americans do not pay corporate taxes either.
Corporate tax reform is not usually a major issue in a presidential campaign, but it may be this year. President Obama has introduced a bold framework for a business tax overhaul.
His framework is already under attack from both the left and the right, indicating that the president has found a sensible middle position from which to start the debate — a debate worth having. Corporate taxes are a significant determinant of investment, innovation, job opportunities and growth.
When Japan cuts its corporate tax rate this year, the United States will have the highest statutory corporate tax rate of the developed countries. Even after incorporating various deductions, credits and other tax-reducing provisions in the tax code, the effective marginal corporate tax rate in the United States — the one that corporations actually pay on new investments — remains one of the highest in the world.
I’ve written on corporate taxation before, but I think my general point bears repeating: it’s best to just eliminate the corporate tax altogether. It doesn’t provide that much revenue, relatively speaking, and it imposes massive compliance costs, especially in light of the complexity of corporate tax law. It deprives workers of jobs and reduces, and hurts the economy overall because so much labor is required to obey corporate tax laws (think of how man accountants and lawyers would be out of work if there were no corporate taxes; that’s how much systemic waste the government is currently imposing).
Yes, I know we need to increase tax revenue in order to be more fiscally responsible, but there is no reason to think that increasing the complexity of the current tax system will help attain this goal, nor is there any reason to think that taxes can be raised indefinitely. Yes, the federal government is facing a lot of fiscal shortcomings. However, it is obvious that the only real solution to the current fiscal problems is cutting spending. Raising taxes anywhere and everywhere has the potential to provide some help, but the root problem is that the federal government is pending more than it can ever realistically hope to take in.
As such, the focus on tweaking corporate tax policy and retaining ridiculously high rates is simply absurd. There is so little to be gained from high having corporate rates, and so much to lose, that it seems absurd that debate over corporate taxation is centered how high rates should be instead of whether corporate taxes should be levied in the first place.
In the free market, corporations wouldn’t exist. In the real world they do. But there is no reason to be stupid about having this market distortion, and there is thus no reason to tax it. All corporate taxes do, when conjoined with the policy of free trade, is encourage businesses to locate elsewhere, depriving workers of jobs and reducing wages. And the only received in return is a pittance in tax money, which makes such a small amount of federal revenue that it seems simply absurd to even suggest continuing the levy the corporate tax.
Notes: My analysis is based on the most recent set of complete data, which is for fiscal year 2010. In 2010, the federal government spent $3.721 trillion, and collected $2.165 trillion in taxes (source). Corporate taxes accounted for 9% of tax revenues (source), for a total of approximately $195 billion, which is roughly 5% of the federal budget. If the corporate tax were eliminated, revenue could easily be regained by some combination of raising income tax rates, closing income tax loopholes, or eliminating income tax credits. Additionally, eliminating the corporate tax would encourage more corporations to locate domestically and hire more domestic workers, which would expand the income tax base.
Those advocating a cut in the corporate tax rate today generally ignore the tax on dividends, as well as many other provisions of United States and foreign tax law that may reduce the effective tax rate well below the statutory rate.
A recent study found that only 25 percent of the largest American corporations pay anywhere close to the statutory corporate tax rate of 35 percent on their earnings, while 40 percent pay less than half that rate.
Indeed, General Electric, the nation’s largest corporation, paid no federal corporate taxes in the United States in 2010, according to a report in The New York Times.
The sheer diversity of effective tax rates binding corporations—even though there is only supposed to one rate—suggests that the corporate tax rate is being used as a political tool. This perception is certainly encouraged by GE facing an effective rate of zero. If, as the current evidence suggests, the corporate tax rate is used as a political tool for punishing and rewarding certain corporations, then perhaps abolishing the corporate tax rate would be a good step.
While abolishing the corporate tax would not lead to massive economic growth, it would certainly be a step in the right direction. In the first place, corporations could actually focus on producing things instead of playing pointless political games. Furthermore, government costs could be slightly reduced—the natural result of reduced compliance requirements and the corresponding enforcement costs.
While corporate taxes do not apply to the vast majority of businesses, nor do they account for anything but a minor amount of tax revenue.
However, this is no reason to accept an incredibly stupid, highly politicized tax system.
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General Electric, one of the largest corporations in America, filed a whopping 57,000-page federal tax return earlier this year but didn’t pay taxes on $14 billion in profits. The return, which was filed electronically, would have been 19 feet high if printed out and stacked. [Recall that GE claimed a tax benefit of $3.2 billion for this effort. -Ed.]
57,000 pages is a lot of ink and effort to turn taxes from a cost to a benefit. But it should now be easy to see who could profit from a complex tax code.
Large corporations should generally support a complex tax code because their taxes are prepared on a large enough scale to make it profitable to filling out complex returns. The same is not generally true of smaller businesses, so tax code complexity actually serves as a competitive advantage for larger firms because they will generally find it cost-effective to shell out millions of dollars to have their tax returns prepared.
Tax lawyers should also support tax code complexity because it means job security. Forcing businesses to wade through page after page of highly complex and remarkably boring legalese should convince them they want to hire a lawyer to handle this for them. Also, factor in the additional time compliance costs, and the case for hiring tax lawyers makes sense.
The most impressive part of this story is how much GE paid to avoid paying taxes. Hiring tax firms is never free, so GE shelled out a pretty penny to change their status from paying a check to receiving it. It was undoubtedly worth it to do so, but this imposes significant costs on society and the economy.
In the first place, society suffers because it ends up paying GE.
Instead of GE paying for its government benefits, it simply robs taxpayers and keeps their money for itself.In the second place, GE’s compliance with tax law imposes economic costs, primarily in the form of opportunity costs.
Instead of hiring people to actually produce something, GE has instead employed tax lawyers whose only job is to avoid paying taxes.
The tax compliance costs have made the economy poorer because there are now fewer people being productive since it is now more profitable to outwit government statutes instead of making things people find useful.
In fact, tax compliance is a major drain on the economy, and is one of the oft-overlooked costs of taxes. People often get caught up on tax rates, but tax complexity imposes its own costs as well, and should be part of the tax debate. Thus, the fact that GE not only had a corporate tax benefit of over $3 billion but did so with a 57,000 page return should suggest that something is terribly wrong with the current tax system.
The largest burden of corporate taxes is borne by workers.We discover that by asking a simple question, such as: Which workers on a road construction project earn the higher pay, those employed moving dirt with shovels and wheelbarrows or those doing the same atop giant earth movers? You’d guess the guys operating the earth movers, but why? It’s not because they’re unionized or because construction contractors have a fondness for earth mover operators. It’s because those workers have more capital (tools) to work with and are thereby more productive. Higher productivity translates into higher wages.
Tax policies that raise the cost of capital formation –such as capital gains taxes, low depreciation allowances and corporate taxes –reduce capital formation. As a result, workers have less capital, lower productivity and lower wage growth. In 1980, Joseph Stiglitz, now a Nobel laureate, said that workers share the highest corporate tax burden in the form of lower wages. A number of economic studies, including that of the Congressional Budget Office, show that workers bear anywhere from 45 to 75percent of the corporate tax burden. Adding to the burden is the fact that capital has the kind of mobility that labor doesn’t. Corporate capital can flee to other countries easily, but workers cannot.
I’ve hammered on this before, but it bears repeating: Only people pay taxes. Corporations are nothing more than legal fiction and, at the end of the day, an actual human being has to pay taxes.
What’s intriguing is how workers end up paying more in taxes than consumers. It does make sense, though, since the current legal and political system in the United States encourages consumption and discourages capital accumulation. At any rate, it should be clear that it takes a significant amount of ignorance to talk about taxing corporations. This cannot, and will not ever be done; only people can be taxed, and so it would be more constructive talk about how best to go about taxing people.
Corporate Taxes as a Percentage of Federal Revenue
1955 . . . 27.3%
2010 . . . 8.9%
Corporate Taxes as a Percentage of GDP
1955 . . . 4.3%
2010 . . . 1.3%
Individual Income/Payrolls as a Percentage of Federal Revenue
1955 . . . 58.0%
2010 . . . 81.5%
Anyone who is serious about closing the US deficit should consider the changes in what corporations pay in taxes and the rise of the deficit.
Mr. Ritholtz seems to have neglected debt as a form of raising revenue, which is why his corporate tax contribution rate is 9%, whereas the IRS places it at 4% (an approximate value). Actually, once you factor in debt as a means of revenue, the “taxes as a percentage of federal revenue” rates are cut in half for 2010 figures, which suggests that the biggest issue facing the federal budget is deficit spending, not low corporate tax rates. As it stands, I find Mr. Ritholtz’s recommendation of raising corporate tax rates to be absurd for a couple of reasons.
First, there is absolutely no reason to believe that an increase in one tax rate will lead to an increase in net revenue in a meaningful way.
For the last sixty years, federal tax revenue has been capped at roughly 20% of GDP
This has been the case when tax rates were and when tax rates were low.
Additionally, fluctuations in revenue are better explained by the business cycle than the actual rate.
The reason why this is important is because it suggests that government spending should be no higher than 20% of GDP.
Since spending is considerably higher than that, it seems reasonable to conclude that solving the fiscal problem is going to require spending cuts, not tax hikes.
Second, tax avoidance exists, and explains the soft cap on revenue. If corporate tax rates increase, money will be spent to avoid paying taxes and money will be diverted to avoid paying taxes. People don’t like paying taxes, and that fact doesn’t change with the rates. What changes is the profitability of tax avoidance. Those who avoid paying corporate taxes will have a greater incentive to do so in light of a rise in the rates. Those who don’t have a reason to avoid paying taxes will have even more of a reason to do so once these rates increase.
Third, only people pay taxes. Raising corporate taxes will not work the way Mr. Ritholtz thinks, because whatever money is confiscated from corporations is actually confiscated from either customers or shareholders. This in turn means that whatever is confiscated at this time cannot also be confiscated later (in case Mr. Ritholtz was asleep during Econ 101, this is known as an opportunity cost). Taxes are merely systemic price points, and should be treated as such. Having more price points doesn’t necessarily mean an increase in revenue, for people will have less money after each price point (because taxes are mandatory).
This sort of thinking, then, is too clever by half, for it is built on ignoring fundamental principles of economics.
Mr. Ritholtz has thus allowed populist sentimentality to influence policy recommendations, leading to advice that is not grounded in reality, and should thus be discarded. My personal recommendation for fixing the fiscal mess is simple: eliminate all unconstitutional spending and implement a single tax (either an income or sales tax) at a single rate, with no exemptions, credits, or deductions. I see no point in setting the rate higher than 20%, since history has shown that the federal government is incapable of raising revenue in excess of that.
Oh, and since only Republican talking points are subject to strict scrutiny from the “objective” press, let me quickly rebut Nancy Pelosi & Co.’s nonsense about “big oil.” Oil companies get the same business tax breaks as every other company. These are mostly what Democrats mean when they talk about giveaways to big oil. The Ryan plan would rightly eliminate many such breaks, while lowering the corporate tax rate to a level competitive with other industrialized nations. The only “road to riches” for the oil companies in the Ryan plan is its call to allow more oil drilling on America soil, which, yes, would generate profits for oil companies — and tax revenues for the government and jobs for Americans and lower gas prices, too. The villains. [Emphasis added.]
Congress closing loopholes and lowering rates is no guarantee of being competitive or getting revenue. Does anyone think GE will not try to hide even more money and capital overseas once it starts having to actually pay taxes? And what about any and all other companies that would see an effective increase in their tax bills?
The best thing for congress to do would be to eliminate corporate taxation
(remember, it accounts for 4% of federal revenue
) and close income tax loopholes.
This would promote systemic efficiency while eliminating some corporate favoritism and welfare.
It would also ensure that more people have skin in the game when it comes to spending, which should encourage more people to demand fiscal prudence.
Quite simply, there is little point in trying to reform something that is trifling and inconveniencing at best, and destructive and counterproductive at worst. Ryan means well, but he has to stop getting caught up in trivial details. The problem isn’t that the corporate tax code isn’t refined enough; it’s that it’s pointless.
This will make more sense once my next IMF
post is published, but I propose eliminating the corporate taxes.
I say this because as I was completing my tax return, I took a look at the handy revenue chart the IRS placed in the instruction booklet.
I saw two things that really intrigued me.
First, debt accounts for 40% of the federal budget’s funding.
Second, corporate taxes account for 4% of the federal budget’s funding.
Given that corporate taxation is as much a redistributive system as anything else
, it makes little sense to bear the administrative costs in light of little is actually contributed to the budget.
Income taxes account for 26% of the budget, and have a higher return on costs. I propose, then, that corporate taxes be eliminated, and that revenue is supplanted by closing loopholes, especially for low-income tax payers. If they are going to receive government benefits, the least they can do is pay for some of them.
Of course, this proposal will seem somewhat hypocritical in light of my next post. I simply want to note that no matter how you analyze it, corporate taxes are simply a waste. Not only are they costly to collect, relative to revenue, they are also costly to comply with which makes starting and running a business in America less appealing. Eliminating corporate taxes encourages business growth and eliminates government inefficiency. Naturally, this plan is doomed to fail.
C. Raja Mohan in The American Interest on India’s strategic directions.
A Reuters report on how Pakistanis are responding to the global backlash against Pakistan.
Writing in the Wall Street Journal, Matt Ridley has some great insights into economic development.
M. K. Venu on corruption in Indian telecom.
Sanjeev Sanyal in the Business Standard on how to think about the role of the university in the city.
When Israel graduated into OECD, it got dropped from the MSCI Emerging Markets index, which helped India gain a bit of weight there.
Economic Opportunities and Gender Differences in Human Capital: Experimental Evidence for India by Robert T. Jensen finds that when the BPO industry brings economic opportunities to women in India, this positively impacts investments in girls – who are more likely to gain body mass and go to school.
The global university and the future of human capital by Andrew Kelly in The American.
Thailand’s grief: Thomas Fuller in the New York Times, a set of pictures at boston.com, and another one.
How to save the news by James Fallows in the Atlantic magazine: an important article that everyone interested in the future of newspapers should read.
5 Ways Steve Ballmer Can Save Microsoft’s Mobile Bacon by Galen Gruman: A careful and thorough guide to Microsoft about how to come back into the mobile phone game.
Robert Samuelson says the story of Greece tells us something about the sustainability of the European-style welfare state. Martin Feldstein has a suggestion for how to achieve fiscal prudence in Europe (and by analogy, in India). Also see Feldstein on the Euro crisis.
Taiwan got their corporate income tax rate down to 17%.
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