Corporate Tax

It's worth saying that reducing the corporate income tax, as per John McCain, is not a terrible idea per se. As far as these things go, the corporate income tax is not a great way of raising revenue in part because it's shot-through with loopholes and such. And then the existence of the loopholes and the desire of various companies to squeeze their revenues into the loopholes has a deleterious impact of some kind on economic growth. I believe the standard center-left technocratic proposal is to eliminate the corporate income tax entirely and replace the lost revenue with a hike in the top individual income tax bracket -- that should ensure that the benefits of a corporate tax cut are captured by the middle class.

That, however, is very much not what John McCain is doing. Rather, he's proposing a cut in the corporate income tax rate and an extension of tax cuts in the top bracket and he's proposing to pay for that through some mix of borrowing and large cuts to domestic spending on retirement security and who knows what else. There's no good case for doing that. The imperfections of the corporate income tax, though real, aren't nearly so terrible as to make it worth paying any price to eliminate them. The kind of technically sound, revenue neutral corporate tax cut I outlined in the first paragraph is the sort of thing you would have expected the McCain of 2001-2003 to propose, but the new-old dogmatic rightwinger McCain is just offering flim-flam and smokescreens.

Comments

I believe the standard center-left technocratic proposal is to eliminate the corporate income tax entirely and replace the lost revenue with a hike in the top individual income tax bracket -- that should ensure that the benefits of a corporate tax cut are captured by the middle class.

That seems surprisingly daft for a "standard center-left technocratic proposal." In what way would abolishing the corporate tax and heavily taxing top-bracket individual income ensure a flow of benefits to the middle class? Wouldn't it, on the contrary, ensure the concentration of wealth within corporations?

(Not to mention ensuring the birth of a multitude of inventive schemes for concealing, from the income tax system, the flow of benefits to the owners/officers of those corporations.)

Posted by southpaw | July 7, 2008 10:58 AM

Reduce the corporate rate to 20%, and pay for it by eliminating the loopholes in the Code and raising income taxes on the top 1%. I suspect that many corporations would go along. The ultra-rich might raise a fuss, but the biggest opponents would be the lawyers and accountants who make all their money by "interpreting" the Code for their clients.

We'll never be able to restructure the federal government--entitlement reform, healthcare reform, etc.--and put the nation on a sustainable fiscal path unless and until we reform the Tax Code. And the lawyers and accountants will never let real reform happen.

Posted by Claudius | July 7, 2008 10:58 AM

We'll never be able to restructure the federal government...until we reform the Tax Code. And the lawyers and accountants will never let real reform happen.

Not to mention politicians. And voters. And activists. Or are you proposing everyone give up their solar power and HLEV tax credits too?

Posted by Mike | July 7, 2008 11:04 AM

Did you read that McCain is going to balance the budget by the end of his first term? And how does he plan on doing it? Well, one of his brilliant ideas is to do it with the savings we'll get from victory in Iraq and Afghanistan.

I think John McCain is either bucking for a place in the Shameless Panderers Hall of Fame, or he's completely lost it. Let's look at just how stupid his idea really is:

- He told us that we'd have a substantial presence in Iraq for 100 years, but apparently we'll also see enormous savings in less than 4 years.

- He said we have some troop withdrawal by 2013. That's past the end of the next president's term. How do you get pre-savings?

- I thought there was no timeline for withdrawal from Iraq. Doesn't claiming savings in less than 4 years constitute a timeline?

- The situation in Afghanistan is deteriorating and has been for quite some time. The Taliban has grown stronger and we have no troops to send. Just how will he make it be all better in less than 4 years, especially without troop reductions in Iraq?

- McCain is supposed to understand the military. It has been known for years now that the Iraq war has burned through equipment that has not been replaced. Since we have an enormous backlog of equipment to be replaced (Bush didn't want to take responsibility for that ... big news), how will we have any "savings" for years after we withdraw from Iraq?

Yeah. More "straight talk". This guy really is 4 more years of George W. Lots of bad policy, conflicting statements, and fuzzy math.

Posted by LFC | July 7, 2008 11:06 AM

Perhaps someone with an accounting background could chime in: presumably corporate profits eventually go somewhere: eventually they end up in the hands of the owners in the form of salary increases for the corporate owners, dividends for shareholders, or increased shareholder value by investment in capital which is slowly depreciated over time rather than deducted from profit. It strikes me that an elimination of the corporate income tax would allow corporations to pull off some kind of deferred taxation: eliminating corporate income taxes means that the corporation can determine when and at what point it will distribute the profits as taxable income to the owners.

(combined with the elimination of the estate tax, this could create a whole form of untaxed wealth: if corporate profits are untaxed and then reinvested into the company, this promotes an increase in shareholder value. when the owner of those shares dies and passes them on to his heirs, the heirs receive the shares at their current value, and when they are sold, the capital gains are assessed with the starting price at which their were inherited, and that increase in share value occurred by reinvestment of the untaxed corporate profits)

Posted by Tyro | July 7, 2008 11:15 AM

Those that whine that America has some of the highest corporate taxes in the world are actually referring to tax RATES, but we're actually quite competitive in TAXES PAID.

To me, this clearly means that we need to close a lot loopholes first and then cut the business rate. I'm unwilling to support making the cut first and hoping the loopholes will be taken care of later. As Rocky said to Bullwinkle, "but that trick NEVER works."

And I agree with Claudius that the lobbyists for lawyers and accountants will fight tooth and nail against any form of simplification. They depend upon the current level of confusion for a good portion of their income.

Posted by LFC | July 7, 2008 11:40 AM

Replace the corporate income tax with a VAT and a sales tax on financial transactions.

Posted by Aatos | July 7, 2008 11:45 AM

"That seems surprisingly daft for a "standard center-left technocratic proposal." In what way would abolishing the corporate tax and heavily taxing top-bracket individual income ensure a flow of benefits to the middle class? Wouldn't it, on the contrary, ensure the concentration of wealth within corporations?

(Not to mention ensuring the birth of a multitude of inventive schemes for concealing, from the income tax system, the flow of benefits to the owners/officers of those corporations.)

Posted by southpaw | July 7, 2008 10:58 AM"

IIRC this plan tends to work well and as intended in much of Scandinavia, especially in Denmark, with a generous welfare state, high growth, a high standard of living and low inequality.

Posted by Reality Man | July 7, 2008 12:25 PM

"I believe the standard center-left technocratic proposal is to eliminate the corporate income tax entirely and replace the lost revenue with a hike in the top individual income tax bracket"

I wouldn't say that's a centre left argument at all. Sounds much more like a Megan McArdle/libertarian type one to me.

It's a very good one though and not just because MMc is in favour of it. For corporations in tax terms are a convenient fiction. There's a CBO study around ("CBO tax incidence of corporate income taxes" or some such Google search will find it)which points out that some combination of workers in hte form of lower wages, investors in lower returns and customers in higher prices actually pay the tax, even though the check comes from the company. Pretty standard application of the idea of tax incidence.

Posted by Tim Worstall | July 7, 2008 12:30 PM

Great post. Also note that corporate income tax ends up falling a lot on a corporation's lowest-wage workers, and on consumers. It doesn't really all just come out of the pockets of shareholders. So replacing it with personal income tax would make the system more progressive.

Posted by Noah | July 7, 2008 12:47 PM

Tyro,

You're making a big mistake in assuming that reducing corporate taxes will result in increased corporate profits. That is certainly one possibility, but the market economy does function at some levels. Companies have to compete with one another on prices and employee compensation. Both of these tend to benefit economic classes we are concerned with. And I've heard of studies that claim most of the extra cash from cutting corporate taxes pools there. I'm not promising it, but I'm pointing out that you can't assume that the wealth all goes to shareholders. This is not really different from productivity growth, which has also benefited the middle class (although not as much over the last 20 years, but there are other factors at play there). This is fundamentally why there is a coherent leftist view on cutting corporate taxes.

Posted by mpowell | July 7, 2008 12:48 PM

IIRC this plan tends to work well and as intended in much of Scandinavia, especially in Denmark, with a generous welfare state, high growth, a high standard of living and low inequality.

I don't doubt it, but there must be some other feature that prevents corporations from loading up their retained earnings and larding it out to the fat cats in the form of perks and expense accounts.

Put it another way: As many have noted, the double tax (i.e. corporate income tax plus a tax on corporate distributions) is largely fictive (tax incidence is ultimately passed on to individuals). Still, the double tax exists (as I understand it) to make sure that corporate accounts don't end up being de facto tax shelters for rich folks' accumulating assets. Under Matt's idea, how is that end accomplished?

Posted by southpaw | July 7, 2008 1:04 PM

Businesses don't pay tax, consumers pay tax.

Posted by Tim K | July 7, 2008 1:24 PM

I don't doubt it, but there must be some other feature that prevents corporations from loading up their retained earnings and larding it out to the fat cats in the form of perks and expense accounts.

Taxing corporate taxes actually provide more incentive for perks and expense accounts to executives. You're assuming that if companies are netting more profit they'll be giving it away to the CEOs. But the CEOs can't just give all the money to themselves. They have to pay their employees something after all. I think the profit margins you see in business and executive compensation are not really driven by factors like these. The CEO compensation situation really results from a competition for quality executives and also a battle between board members and shareholders for control of the company (where board members tend to dominate for the most part). And if a business had really big margins, competitors would want to enter the business and reap those rewards, so something like a corporate tax really can't move margins all that much.

Companies really do have to compete for regular employees, though. And companies with spare cash are always trying to expand, which almost always involves trying to hire more people, and tends to drive wages up.

Posted by mpowell | July 7, 2008 1:25 PM

Eliminating corporate taxes makes sense on several levels and since taxes raised from corporations only represent about 10-15% of the total ($150-$200 billion per annum), you could recoup the loss through a combination of increasing the top marginal tax rate and increasing the tax rate on capital gains and investment income.

Beyond that, the benefits to the economy are several and they aren't just handouts to corporate America:

1. You remove tax considerations from corporate investment decisions. Companies shouldn't locate plants, factories in whichever state that gives them the most tax breaks.

2. By removing the corporate income tax, you eliminate much of the incentive for companies to pile on debt (which is tax deductible). This would lead to companies with healthier balance sheets, which would allow them to perform better through economic cycles.

3. Much of the increased cash flow that is freed up would be passed on to shareholders in the form of dividends (which would be taxed at the individual level), but companies could also use that cash to pay higher wages (unlikely you might say).

4. Increased capital stock. By holding onto more of their profits, companies would have more cash to invest in property, plant, and equipment, and would lessen their reliance on raising equity in the capital markets, which in theory, should help reduce interest rates.

5. Increased competitiveness. By eliminating taxes, US companies could compete better and probably do better in keeping jobs in the US.

6. Simplicity. US companies spend about as much money on lawyers to avoid taxes as they do actually paying them. Eliminating would greatly simplify the tax code.

7. Political. If the Dems were to adopt this policy, it would blow the GOP/Big Business coalition aprt. As a practical matter, I see using the proposal to eliminate/greatly reduce corporate taxes as a quid pro quo for corporate America supporting universal health care.

Posted by David68 | July 7, 2008 1:56 PM

mpowell,

I think, among other things, you're taking an overly narrow view of the uses of the corporate form. Some corporations are large, staff-dependent, global competitors motivated by growth and profit. Other corporations are smallish, motivated by a narrowly defined purpose, controlled by a small group of investors with parochial interests, or nearly independent of staff. The corporate tax has to apply to all of them. It has to apply to Pepsi, and the corporation established to hold and license Steven Spielberg's intellectual property, and the little repertory theater in Lexington, VA, and the corporation established to hold title to a network of fiber optic cables in the South Pacific, and Exxon. Some of those corporations are going to be limited by competition and a demanding labor force, others won't.

Posted by southpaw | July 7, 2008 2:03 PM

"CEOs can't just give all the money to themselves. They have to pay their employees something after all."

Since when?

Posted by An Outhouse | July 7, 2008 5:10 PM

Replacing a corporate income tax with a tax increase in the upper brackets of the individual income tax would only come close to breaking even if US corporations are 100% owned by wealthy US citizens residing in the US. That's hardly the case.

In fact, many sectors of the US economy have large--even majority--levels of foreign ownership.

Eliminating the corporate income tax would mean that foreign investors could exploit large sectors of the US economy and pay not a dime of tax. Fishing companies operating factory trawlers off Alaska, Lumber companies cutting old growth forests, mining companies drilling on public lands. Many of these industries are largely foreign owned. How would raising the top tax bracket on individual Americans recapture any of the revenue lost if we ceased taxing these sorts of foreign owned corporations?

Posted by Kent | July 7, 2008 7:47 PM

The Republicans have been successful with rebranding things like estate tax into death take. Democrats should take a page on taxes -- you are for borrowing more and putting us more into hock with the Chinese government or for borrowing less.

Posted by mike | July 7, 2008 8:36 PM

300 economists' statement of support for John McCain's economic plan.

We enthusiastically support John McCain's economic plan. It is a comprehensive, pro-growth, reform agenda. The reform focuses on the real economic problems Americans face today and will face in the future. And it builds on the core economic principles that have made America great ...

Posted by Mixner | July 8, 2008 2:37 AM

Who are McCain's "economists" and what kind of stature do they have?

Here's what some Nobel prize-winning economists have to say about Obama's plan:

http://www.youtube.com/watch?v=zk8XpLHG_4A

I'll take Paul Volker and Warren Buffett (to say nothing of the Nobel Prize winners) over McCain's stooges any day.

Posted by Meteor | July 8, 2008 2:19 PM

Replacing a corporate income tax with a tax increase in the upper brackets of the individual income tax would only come close to breaking even if US corporations are 100% owned by wealthy US citizens residing in the US. That's hardly the case.

What an absurd claim. The revenue derived from increasing individual income taxes on the wealthy is mostly a function of how high the rate is set and how low we go in defining "wealthy." It is obviously possible to make up the relatively paltry sum the IRS takes in from the corporate income tax via increases on individuals. The question is not whether it's possible; the question is whether it's a good idea.

Eliminating the corporate income tax would mean that foreign investors could exploit large sectors of the US economy and pay not a dime of tax.

In other words, eliminating the corporate income taxe would make America a more attractive place to global investors. Gee, that would really suck.

How would raising the top tax bracket on individual Americans recapture any of the revenue lost if we ceased taxing these sorts of foreign owned corporations?

Huh? the corporate income tax accounts for well under 10% of federal revenues. Are you seriously suggesting you don't understand the elementary mathematics that explain how an increase in marginal income tax rates increases income tax receipts?

Posted by Jasper | July 8, 2008 2:47 PM