Bruce Bartlett held senior policy roles in the Reagan and George H.W. Bush administrations and served on the staffs of Representatives Jack Kemp and Ron Paul. He is the author of the coming book "The Benefit and the Burden: Tax Reform "“ Why We Need It and What It Will Take."
Last week, a nice woman contacted me to see if I was interested in the work of a bipartisan coalition she worked for that was promoting a cut in the corporate tax rate. I told her that I was disinclined to believe that it would have much impact but didn't take the time to explain why. This is why.
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First, insofar as taxes affect businesses, more than 90 percent of businesses are not really affected by the corporate tax. They are sole proprietorships, partnerships or S corporations that are essentially taxed only on the individual tax schedule.
The corporate tax affects only C corporations, legal entities separate and distinct from their owners, the shareholders. The income of C corporations is taxed twice "“ once at the corporate level and again when the corporation's income is paid out to its owners.
Therefore, the tax burden on C corporations is a function of both the corporate tax rate and the personal tax rate on dividends. To be valid, an international comparison of corporate taxes must take both into account. This table uses data from the Organization for Economic Cooperation and Development:
Organization for Economic Cooperation and DevelopmentThe inclusion of taxes both at the corporate level and on dividends changes our perspective on which countries are high tax and which are low tax. For example, Ireland has the lowest statutory corporate tax rate among O.E.C.D. countries, yet is still a relatively high-tax country because of the high tax rate it imposes on dividends. By contrast, Japan has the highest statutory corporate tax rate but only the 12th highest overall rate because it has one of the lowest tax rates on dividends.
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.
It is not as if advocates of reducing the corporate tax rate are ignorant of the impact of taxes on dividends in terms of the overall corporate tax burden. In 2003, they made much of the fact that taxes on dividends went as high as 39.6 percent, thus giving the United States a very high combined corporate tax rate.
As President George W. Bush explained in a speech on Jan. 7, 2003:
We can begin by treating investors fairly and equally in our tax laws. As it is now, many investments are taxed not once but twice. First, the I.R.S. taxes a company on its profit. Then it taxes the investors who receive the profits as dividends. The result of this double taxation is that for all the profit a company earns, shareholders who receive dividends keep as little as 40 cents on the dollar….
It’s fair to tax a company’s profits. It’s not fair to double tax by taxing the shareholder on the same profits. So today, for the good of our senior citizens and to support capital formation across the land, I’m asking the United States Congress to abolish the double taxation of dividends….
By ending this investment penalty, we will strengthen investor confidence. See, by ending double taxation of dividends, we will increase the return on investing, which will draw more money into the markets to provide capital to build factories, to buy equipment, hire more people.
In the end, even a Republican-controlled Congress balked at abolishing taxes on dividends, as President Bush demanded, and instead reduced the tax on dividends to a maximum of 15 percent, among the lowest rates in major countries.
Although one often hears conservatives say that cutting the corporate tax rate would jump-start growth, it's worth noting that the original Bush proposal to sharply reduce the combined corporate tax rate by abolishing taxes on dividends would have been likely to have only a very modest effect on growth.
According to a report by the Council of Economic Advisers on Feb. 4, 2003, the original Bush tax package, which also included provisions intended to increase saving and investment, would have only raised the growth of real gross domestic product by 0.2 percent a year.
An article in the December issue of the National Tax Journal finds that the long-run effect of cutting the corporate tax rate to 30 percent would have a similarly modest impact.
It is extremely simplistic to look only at the statutory corporate tax rate in evaluating the economic effects of the corporate tax. Many other factors must be taken into consideration.
And while it may be a good idea to reduce the corporate tax rate as part of a tax reform package, the idea that this will jump-start growth is nonsense.
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