Rethinking the Corporate Income Tax

It is hard to find anything positive to say about the corporate income (i.e., profits) tax. Economists across the ideological spectrum agree that the corporate profits tax is woefully inefficient:

1) It warps corporate decision making, inducing expenditures made only to reduce a company’s tax liability.

2) The compliance costs are astronomical, often exceeding 60 cents for every dollar of revenue that the government raises from taxing corporate profits. How would you like to spend $6,000 per year calculating that you owe Uncle Sam $10,000?

3) It fosters over-reliance on debt. Corporations often need to borrow money to replace funds that government taxed. In fact, the tax code encourages debt, making corporate debt tax deductible.

The corporate profits tax is also ethically problematical.

Every year we read about some corporations that earned profits paying zero taxes, while other firms are ensnared in the tax net. This is patently unfair.

The unfairness is compounded by the periodic tax breaks that Congress writes. The timing of such tax breaks is arbitrary. Why should some firms receive an accelerated depreciation allowance for helpful upgrades paid for this year when their competitors upgraded last year and received no comparable break?

Another thorny ethical problem involves the tax-free status of non-profit organizations. Some of them engage in political lobbying where they enjoy a cost advantage vis-à-vis for-profit organizations that lobby on the same issue (though perhaps on the other side). Other non-profits compete directly with for-profits for personnel, supplies, etc. The newest ethical abuse is that formerly for-profit companies can convert to non-profit status as a loophole to make themselves eligible for additional federal earmarks.

Despite the glaring economic and ethical shortcomings of the corporate profits tax, such taxation enjoys widespread popular support. A large percentage of citizens like the idea of taxing “rich” corporations. However, the economic reality is different from the common perception.

It’s a cliché, but true: corporations don’t pay taxes, people do. Corporations are simply fictitious legal persons serving as unpaid tax collectors for governments. The actual economic burden of taxation is borne by real people, i.e., consumers, who pay higher prices; workers, who are left with lower compensation packages and diminished employment opportunities; and investors, particularly the millions of middle-class American who own stocks in their retirement and investment accounts, because the corporate income tax makes their investments worth less.

In addition to being economically irrational, ethically dubious, and a cynical disguise for taxing real people, most of whom are not rich, the corporate profits tax stunts economic growth. In a recent study, the Organization for Economic Cooperation and Development affirmed, “Corporate taxes are found to be most harmful for growth, followed by personal income taxes and then consumption taxes.”

Currently, the United States has the second-highest corporate income tax rate in the developed world, 35 percent. Should we trim this rate? No. We should scrap the tax entirely.

The biggest problem with eliminating the corporate profits tax, which raised $138.2 billion in fiscal year 2009, is that it would aggravate our budget deficit. To offset this sudden loss of revenue, Congress should terminate all federal subsidies to businesses. Although precise definitions of corporate welfare and exact dollar figures for such government favors are hard to tabulate, they surely exceed $138 billion per year. Let’s do away with the myriad privileges for special business interests and make them earn their income by serving consumers instead of milking the taxpayers.

American workers would benefit greatly from ditching the corporate profits tax. Business flooded into Ireland when it undercut the other EU countries by lowering its corporate income tax rate to 12.5 percent. A zero percent rate on corporate income here would be even more enticing, making the United States the favored destination of multinational corporations. Job opportunities would mushroom, and the resulting expansion of the tax base would lower the federal deficit.

The benefits of jettisoning the whole corporate income tax/corporate welfare mess would be many: More jobs, more production, more wealth, more fairness, and lower government deficits. Who could object?

Unfortunately, many people. Start with the strange bedfellows of corporate lobbyists and anti-capitalist ideologues. Then add the politicians who traffic in political favors and moral posturing. Finally, add the millions of American citizens who fail to perceive that, instead of soaking the rich, the corporate profits tax is a scorched-earth policy inflicting widespread economic damage on middle America.

Abolishing the corporate profits tax isn’t politically feasible today, but we can hope for a day when economic reason prevails and we get this albatross off our backs.

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  • c-kingsley

    You often hear calls for more regulation of the influence of “money” on the political process. If you heard that the government was thinking of something that would harm your business, you’d be a fool to sit around and do nothing. The way to get the influence of money out of politics would be to get the influence of the government out of our everyday lives.

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  • Dr. Hendrickson, isn’t a corporation considered an individual by law? If so, why should that individual not pay taxes while this individual (me) has to pay taxes?

    I am afraid your logic is a little flawed. A corporation exists only to make money for the shareholders. If it does something decent for society at the same time, so much the better for society. A corporation is asocial and amoral (and that terrifies me). Anything that is designed to make it easier and more profitable for such a monstrosity to operate therefore is not well thought out.

    If you are saying to yourself, “this guy is nuts,” tell me, have corporations increased hiring as the economy has become better for them? Did corporations do anything to help out when the economy went to Hades in a handbasket? That is my point.

  • joanspage

    While the article links ending corporate taxes to corporate welfare, political reality would work like this: Taxes would be ended but “welfare” would be defended because various things would be said to “save jobs” or “protect national security” or “advance medicine.” Lowering tax rates might help but the above plan is not realistic.

  • goral

    A corporation is not an individual it’s a legal entity set up to protect the principals from being personally liable for the actions of the collective.
    It’s a good construct that enhances the viability of the company in the marketplace.
    Everyone in the corporation is already taxed individually so in essence it’s double taxation.
    As with everything and everyone the gov’t plays the tax game to influence, control and regulate economic activity.
    When everyone is making hay nobody notices the inconsistencies, ineptness and injustice of any of it.
    The problem starts when the economy tanks.
    Now we see how inept the feds really are and of course they’re shielded from any responsibility of their horrendous decisions.

  • joanspage

    Should corporations donate to campains and not bve taxed?