Should Corporate Tax Be Abolished?

Daniel Mitchell, Fellow, Cato

The corporate income tax is a destructive levy that discourages job creation and economic growth. But it is nonetheless a popular source of revenue for politicians because voters do not understand that taxes on companies are really borne by individuals (as shareholders, workers, and consumers).

In an ideal world, there should be no corporate income tax. But in that ideal world, there would be no taxes on any income. Sound like an impossible fantasy, but it’s worth remembering that the western world made the transition from agricultural poverty to middle-class prosperity in the 1800s, when income taxes were largely nonexistent and the burden of government spending was a tiny fraction of current levels.

So what’s the right approach to corporate taxation in today’s imperfect world?
The gold standard of good tax policy is the flat tax. More specifically, it’s the Hall-Rabushka flat tax, a very simple levy which was devised by economists at Stanford University’s Hoover Institution. This system is based on the principle that the economic harm of taxation can be minimized if all income is taxed, but only one time and at one low rate.

And that means corporate income should be taxed.
That being said, most corporate income taxes in the developed world are grievously flawed.

• Tax rates generally are too high.

• Most nations double-tax corporate income, first with the corporate income tax and then a second time with personal income taxes on dividends.

• Rules on ‘depreciation’ force companies to pretend that investment costs incurred today occur in the future, thus imposing a present-value tax penalty on capital formation.

• A few nations, most notably the United States, impose ‘worldwide taxation’ on income that is earned  – and already subject to tax – in other jurisdictions.

• There are unjustified and distortionary loopholesthat result in zero tax on some types of income/activities.

That’s the bad news.
The good news is that these problems can be solved. With a flat tax, the corporate income tax would be replaced with a very simple, low-rate system that properly measures income (i.e. a cash-flow-based approach that allows companies to immediately deduct investment costs – a policy known as ‘expensing’). The flat tax also is based on the common-sense notion of territorial taxation (only income inside national borders would be taxed). And there is no double taxation since income is taxed at the business levels and there is no second layer of tax when corporate income is distributed to shareholders.

By the way, corporate income can be taxed without a corporate income tax. Lawmakers can choose to tax the income when it is distributed to shareholders (the people who own the company) instead of taxing it at the business level. The goal, of course, is to make sure it no longer gets taxed twice.

 A good business tax system isn’t a fantasy. Jurisdictions such as Estonia and Hong Kong have business tax systems that are very close to the abovementioned ideals. And it goes without saying that jurisdictions such as Bermuda, Monaco, and the Cayman Islands. are even better since they fulfill my dream of no income tax whatsoever.

Tove Maria Ryding, Policy and Advocacy Manager for Tax Justice at the European Network on Debt and Development (Eurodad)

It's time to mend society - not tear it apart. While politicians argue that austerity is a must, multinational corporations report billion dollar profits. Headlines about Apple's cash hoard swelling to over US$250 billion make it even harder for the public to understand why wages are stagnating and society can't afford proper healthcare and education.

Our tax systems are central to tackling these problems as well as funding the services- roads, hospitals, schools, police, courts- that we all need. Corporation tax is a key source of public funding, and is a direct contribution to the very services on which corporations also depend.

Some are now calling for the abolition of corporate taxation altogether, but this would escalate rather than solve our problems. First, it would further reduce the tax base of states that are already struggling to balance the books. Lost corporation tax revenue would have to be made up from increases in other taxes, but the public will - rightly - not stand for higher income tax or VAT to pay for big corporate tax cuts. Furthermore, corporation tax has ar number of advantages over other tax alternatives. It is relatively progressive, thus helping to reduce inequality. And it ought to be relatively simple to collect, assuming we replace the current over-complicated rules and exemptions with a simple, clear and modern system.

The idea that abolishing corporation tax would spur private investment and hence job creation is a red herring. First, taxation funds public investment, including infrastructure and public services, which is a precondition for economic development. Second, states that have cut corporation tax have not seen a corresponding increase in private investment. This is partly because there are many other ways that corporations can spend the untaxed profits, including by giving higher payouts to shareholders and senior managers. Evidence also shows that corporate tax levels are a very weak driver of international investment decisions compared to other factors such as market-size, infrastructure, and the skills of the workforce.

Finally, some argue that "taxing corporations is just too difficult." This begs the more important question of why governments don't put forward more ambitious proposals to ensure that corporations actually pay their taxes - through curbing large-scale tax incentives, introducing transparency, ensuring international cooperation, ending sweetheart deals, and tackling profit shifting?

Multinational corporations are deeply dependent on peace, stability, functioning infrastructure, educated, healthy workers and a society that can care for the youngest and the oldest employees work. Instead of asking "Should we really pay taxes?", corporations should be asking "How can we help mend the society on which we all depend?"

Denis Kleinfeld, Of Counsel, Fuerst Ittleman, Miami

In 1913, the United States rejected the wisdom of its Founders who had specifically prohibited direct taxation. In a fit of political populism, Congress passed the Income Tax Act of 1913 and facilitated the 16th Amendment to the US Constitution. The American experience with the income tax over the next 114 years has proven the Founders arguments against income tax to be true. Most of those in Congress accept the fact that the income tax system is a disaster. 

There is a foundational problem with an income tax system that has never been solved by any government in the history of taxation.That is, there is no definition of income. For US tax purposes figuring out what is income for purposes of applying tax rates requires a complex tax code elaborated by extensive regulations, revenue rulings, revenue procedures and a long list of other explanations of exemptions, exclusions, deferments, and credits. Topped off by anti-abuse rules with civil and criminal tax enforcement provisions. As a result, taxpayers are in terror of their government, despise the tax authorities, and hate the politicians who are defrauding them.

To hide the total impact of the burden of income tax on everyday Americans, they are led to believe by the politicians that corporations are obligated to pay tax which reduces the tax burden on individuals. It is untrue.

Corporations do not pay tax. Yes, they write a check to the US treasury and account for it as a tax payment. But then, because they must earn profits per share after tax, the amount of tax is buried into the cost of the goods or services being sold and passed on as an increase in the prive.

In effect, corporate tax in economic terms is nothing more than an additional sales tax on the buyers. All tax, no matter what the government calls it, is ultimately paid by individuals. Politicians like this because it keeps the voters in the dark as to how much in total the government is taking out of their pockets.

Corporate tax as an artificial system, causes alterations in behaviour which have dramatic and mostly negative effects on the economy and people's lives. Businesses are effectively forced to use debt financing for capital investment and other business needs rather than being paid for out of equity.

We can see this in the wide array of convoluted financial structures that serve no useful business purpose other than gaining tax benefits or meeting tax compliance requirements. The vast corporate tax planning and compliance industry contribute nothing productive to the growth of the American economy. Just billions of dollars of more cost without anything economically meaningful in return.

Worst of all, the corporate income tax adds fuel to the all-consuming political corruption that engulfs the Congress and Administration. Powerful special interesting voting blocs exist only because of tax benefits or incentives. These then support a legion of lobbyists and campaign contributors whose livelihoods are dependent on the tax largesse provided by the corporate tax. Protecting these is the primary focus of politicians who are dependent on them to stay in office.

As a practical matter, the corporate tax does not raise much money. The reality that it can become more useful through being reformed is, at best illusionary. Ludicrous really. America will be far better is the corporate tax was repealed.

Alan Cole, Economist with the Tax Foundation's Center for Federal Tax Policy

Corporate income taxes historically have bedeviled lawmakers with a continuous series of policy troubles. As business transactions become more global, corporate income became a slippery tax base. Unless authorities paid close attention to every international transaction, income tended to find its way to the lowest-tax jurisdictions. Business scholars like Oxford's Michael Devereux devoted their careers to understanding the topic.

Lawmakers responded to this phenomenon of income shifting with various provisions designed to force businesses to report more income in places where they had real physical investment, but often it didn't help; efforts to prevent artifical on-paper income shifting simply resulted in the shifting of real business activity. For example, many large technology multinationals that prefer Ireland's low tax rates began setting up large offices there in addition to stashing financial assets in the country.

Aggressive international competition for corporate profits and investment, especially in Europe, has resulted in a steady, persistent trend of decreasing corporate rates. The United Kingdom has been a leader in that trend, with a plan to reduce its own tax rate to 17 percent by 2020.

Given that the corporate income tax, as an institution, is so tricky to administer, and given that it is on the decline worldwide, some policy analysts have asked whether it is worthwhile for a nation to have a corporate income tax at all.

Eliminating the corporate income tax is a notion worth entertaining, but ultimately it is too much of a fiscal loss for most countries to endure. Even a corporate income tax with a relatively low rate raises substantial revenue which would be difficult to make up elsewhere. Frequently, alternatives to the corporate income tax also have administrative problems that make them challenging as well.

Ultimately, the UK has a responsible corporate income tax makes it competitive with the rest of the world. Rather than focusing on its corporate rate, the UK should instead look to its tax bases.

Income is typically defined as revenue minus expenses. However, in its efforts to lower corporate income tax rates, the UK has made some radical and unwise changes to the treatment of expenses in its corporate income tax code. When corporations spend on productive investments - like new property, plant, or equipment - the UK often delays or disallows the deductions that would correspond with these capital expenditures. While the UK's tax rate is competitive, its capital allowances are among the worst in the OECD.

The UK's tax structure raises substantial revenue despite relatively low rates. However, in the long term it encourages corporations to disburse money to shareholders rather than physically reinvest in the business. This can be a big drag on growth. Much of the OECD has struggled with sluggish physical investment in recent years, and the UK has been no exception.

The UK has competitive corporate income tax rates, but its poor treatment of capital expenditures is a lingering problem. With a more investment-friendly tax base, the UK could be a leader across the board in corporate income tax policy.

Leo Neve, Neve Tax Consultants, Rotterdam, the Netherlands

A corporation used to be an investment vehicle in between an operational activity and an investor. For most jurisdictions that was the reason to allow the investor/ shareholder a credit for the corporate income tax that was paid by the entity. In more 'classical' systems, the entity was seen as a self-standing operator, not being an extension of the shareholder, with the result that both entity and shareholder are taxed separately, with no credit possibility. 

The development of multinational enterprises to encompass universal and vertically integrated operations must result in a self-standing position as regards taxation. Jurisdictional competition in providing operational bases for multinational enterprises has resulted in a race to the bottom with respect to corporate tax rates. US presidential advisors are considering reducing the rates from 35 percent to 15 percent. The UK threatens to compete with EU-based companies by reducing corporate tax rates (following Brexit) to below 18 percent.

But has the reduction in corporate tax rates resulted in more employment and more equivalent taxation of labour and capital? I do not think so. Employment has over the years been moved to low-cost jurisdictions for the benefit of capital investors. The remaining employment in high-cost jurisdictions will in time be replaced by robots. Global diversification of production processes has resulted in high rates of unemployment in OECD member states. A side effect of this movement is the unequal division of the growth in wealth. When the overall return on investment is greater than growth in gross national product, the fact is that labour has to pay the price. Let alone those who are left behind and find themselves unemployed and without pay.

I believe it is time to consider to put the tax charge on those who have the ability to pay. Those who make the profit and can afford to support those of us who have been left behind. I mean that return on investment should be taxed higher, whether directly in form of corporation taxes or indirectly in the form on dividends and wealth taxes. A brave new policy should in my opinion result in a fair sharing of the burden of public spending for welfare and social programmes. Public policy should strive for equality between various production factors. Corporation tax should not be seen as an advance withholding tax on final income tax, but as a self-standing tax on the consolidated profit of corporate entities following the ability to pay principle. Corporations have to contribute responsibly to the public budget, meaning that corporate tax rates should at least be at equal level with the income tax rates on the returns on investment. The blue-collar worker should not be the victim of the race to the bottom of corporate tax rates for vertically integrated multinational enterprises. Therefore the proposal to reduce corporate income tax should be reversed and instead the credit for underlying corporate tax should be abolished.