Mission Impossible: Cutting the Corporate Tax Rate to 25 Percent

By :: November 2nd, 2011

It has been an article of faith among most congressional Republicans and many Democrats that the corporate tax rate should be cut from today’s top level of 35 percent to 25 percent—or even less. And backers of the idea breezily suggest this could be paid for by scaling back some corporate tax breaks. But a new report released today by the congressional Joint Committee on Taxation concludes it can’t be done.

The non-partisan JCT found that even if Congress scrubbed every single corporate preference from the code (a political fantasy if ever there was one) it could not get the corporate rate below 28 percent without adding to the budget deficit, raising taxes on individuals, or cutting spending.

The JCT study, which was requested and released by House Ways & Means Committee Democrats, comes just days after the panel’s chairman, Rep. Dave Camp (R-MI), proposed a 25 percent rate as part of a major corporate reform. Camp did not say how he’d pay for his proposed changes.

My Tax Policy Center colleague Eric Toder has been making a similar point for months:  It is painfully difficult to find the money to reduce rates very much. Unlike corporate breaks, there are more than enough individual tax preferences out
there to pay for individual rate reduction (and have money left over the cut the deficit). The problem is merely a lack of political will. Abolish the mortgage interest deduction anyone?

But cutting corporate rates is much tougher. There, JCT finds there are simply not enough dollars in  preferences to get the rate below 28 percent. But even getting to 28 percent is a huge political challenge: Many heavy-hitting businesses such as Google and General Electric already pay effective U.S. tax rates far below that—in fact many pay effective rates well south of 10 percent. They will not willingly give up the tax breaks that make this possible in return for a rate of 28 percent with no subsidies.

Eric estimates that 70 percent of corporate tax expenditures are related to just two provisions—accelerated depreciation for capital investment and the expensing of research and experimentation costs. And neither, he predicts, are likely to be repealed. Once they are protected, getting rates down to even 28 percent becomes a dream.

If anything, JCT underestimates the challenge. For instance, it does not reflect the likely revenue loss to Treasury when businesses shift their legal structures to maximize their tax savings. How any reform treats those businesses whose income is reported on their owner’s individual tax returns is a huge unanswered question in most reform plans.

In addition, JCT assumes no transition rules, which would likely be extremely costly. And, as the study notes, it only looks at the budget effects within Congress’ usual 10-year window. Over the longer-run, some changes, such as new inventory rules, would result in even less tax revenue and deepen the deficit.

Cutting the corporate rate while reducing tax subsidies makes good economic sense. But, as the JCT study shows, it is devilishly hard to do.

10Comments

  1. Michael Bindner  ::  3:36 pm on November 2nd, 2011:

    The biggest deduction is wages, of course you can only do that if you end individual filing for all but the richest tax payers and then you need a higher rate, not a lower one, with more tax expenditures to distribute the child tax credit through wages.

    This would actually the most promising way to get health care under control, provided the Hospital Insurance payroll tax were also merged into the new tax and the tax applied to all employers, regardless of ownership type. Putting in tax expenditures for long term care and senior health care could allow employers to seek real innovations rather than trying to impose caps on spending. If care costs keep rising, so will the tax until innovations occur. The statutory rate may be higher, but such a tax would likely be tied to where the work occurs, not where the corporate HQ gets its mail. Overseas revenue would be lumped in with everything else, although there is a reasonable argument for not taxing it at all, since labor is presumably taxed in the country where the work is done.

  2. Michael Bindner  ::  3:44 pm on November 2nd, 2011:

    I submitted comments on this issue to the Senate Finance Committee. The hearing was postponed, so I have not yet posted these on my blog. They are posted on Facebook, however at http://www.facebook.com/note.php?note_id=126074150832328

    Here is what I wrote:

    The final question on capital investment is the repatriation of profit from overseas subsidiaries. Under a consumption tax regime, there would be no separate levy on profit. Value added taxes are already paid in the country where the product is sold and these taxes include both the contributions of labor and capital. For the purposes of businesses, profit should not be taxed again when repatriated, except to the extent that this profit results from value added in the United States. Use of VAT exemptions must not be allowed as a tax avoidance scheme. Products with parts that have been produced or developed in the United States, then sent elsewhere for assembly, must reacquire any obligation to pay that was shed at the border. Not providing for this contingency opens the door for a great deal of abuse.

    The source nation of dividend income, meanwhile, must be irrelevant for purposes of collection of the proposed high income and inheritance surtax. The subject of this tax is not the income of the business, which has been shifted to the NBRT for individual filers, but the income of households for personal consumption and savings. The existence of this tax takes into account the decreased likelihood that this income will be spent and therefore taxed under NBRT and VAT regimes and to safeguard savings opportunities for the non-wealthy, who would otherwise be priced out of the market for investments by higher income individuals who, because they have greater opportunities to save, garner greater and greater shares of America’s wealth. The proposed surtax is an attempt to level the playing field so that everyone can invest.

  3. Michael Bindner  ::  4:42 pm on November 2nd, 2011:

    Also covered at http://www.thefiscaltimes.com/Articles/2011/11/02/Corporate-Tax-Reform-Hits-a-25-Percent-Roadblock.aspx#page1

  4. Brian Dell  ::  10:52 pm on November 2nd, 2011:

    I’m suspicious, not least because when it comes to political popularity, a high corporate rate is probably right at the top (and a VAT least popular). Analysis I did while at Canada’s Department of Finance suggested that Canada has roughly 4 times as many corporations relative to either the size of the economy or population as the US, and this report might say more about a need to review the enormous number of pass through entities in the US (small businesses where net income is taxed at the personal rate) than anything else. Any analysis which does not control for the fact that many can organize income as personal instead of corporate is incomplete.

    Our foremost tax expert in Canada, Jack Mintz, takes “dynamic scoring” seriously (see http://www.cdhowe.org/pdf/commentary_254.pdf). So does Greg Mankiw (see http://gregmankiw.blogspot.com/2006/05/dynamic-scoring.html).

    Next year the federal corporate tax rate in Canada will be 15%, for a reduction of about 15% from what the combined provincial and federal rate was in 2000. Corporate tax revenues to government have not been devastated by this.

  5. Ralph H  ::  9:08 am on November 3rd, 2011:

    The main issue is if lowering the corporate tax rate improves businss for US companies, and thus adds jobs. Realize that in today’s global economy companies shift earnings to minimize payouts, especially taxes. Static scoring is useless. Also it has led to most small and mid size companies to elect to be taxed at individual rates. The combination of income shifting by large companies and taxation as individuals by small companies is the reason for the substantial drop in Corporate Tax collection over the past 20 years.

    I do not understand how accelerated depreciation affects scoring as my understanding is that this is a timing issue rather than a net revenue issue. While it might cost near term you recoup later.

    One way to pay for a lower corpoorate tax rate would be to raise the tax rate on dividends.

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