Tax Analysts Blog

Effective Corporate Rate 13 Percent?

Posted on Jul 8, 2013

There are as many ways to calculate an effective tax rate as there are ways to order coffee at Starbucks. So when you hear reports about an effective tax rate, it can mean a lot of different things. Small changes in what may seem to be obscure details make a big difference. And because effective tax rates are politically charged numbers (remember what's his name, the Republican candidate for President in 2012), the potential to mislead and the temptation to overdramatize are huge.

Last week the Governmental Accountability Office made a lot of headlines when it released a study reporting the corporate effective tax rate in 2010 was only 13 percent. GAO reported a lot of different tax rates, but it was this 13 percent figure--the lowest of the bunch--that got the most attention. This ETR was calculated as the amount of tax liability reported on U.S. federal returns of profitable corporations divided by worldwide book income reported to shareholders. Although we all know corporations have used aggressive tax planning to reduce their tax bills, the GAO figure is surprisingly low. Other studies (cited by GAO itself in the report) using a variety of data and methods calculate effective rates in the mid-twenties.

So what explains the difference? Mainly two items. First, the GAO did not include foreign taxes in the widely reported 13 percent figure. It did in fact provide a much more conceptually defensible measure that includes foreign taxes in the numerator and arrives at a worldwide rate of 17 percent as a result. But this adjustment (based on schedule M-3 data from corporate tax returns) is surprisingly and inexplicable small--implying U.S. corporations paid about $30 or $40 billion in foreign taxes when other sources indicate the total may be over $100 billion.

Second, in 2010 the U.S. economy was still severely hobbled by the Great Recession. Corporate tax receipts plummet during recessions because the government provides big tax breaks (in this case, bonus depreciation) and immediately after recessions because corporations can use losses from prior years to reduce current-year taxable profits. My calculations show tax liability on tax returns as a percentage of total before tax profits in 2010 were about half of what they were in 2005 and 2006.

Putting all this together it seems reasonable to not revise the general consensus view that worldwide effective corporate tax rates are on-average in the mid-twenties when we are not in the throes of a recession. Moreover, it is important to remember that these broad averages hide a lot of interesting detail. Multinationals in the oil and mining businesses generally pay very high rates. Purely domestic firms generally have an effective rate close to 35 percent. And pharmaceutical and tech companies generally have effective rates much lower than average. It is the latter category that is now getting all the attention from the press and from governments around the world.

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