There is growing pressure around the world for major changes to corporate tax policy. The OECD's base erosion and profit-shifting project, and the pressures that drove the G-20 to push for action in the first place, is forcing governments to reexamine everything from transfer pricing to tax enforcement. But in the United States, the BEPS project seems to have only motivated lawmakers to moan about foreign countries targeting U.S. multinationals, leading to calls for the United States to address its high corporate tax rate.
This would be poor tax policy. Corporate tax reform that focuses on lowering the rate would be a major mistake. There are big problems with U.S. corporate tax rules, and the rate isn't the most important issue for policymakers to address. And a focus on lowering the rate is bogging down tax reform efforts in Washington.
The U.S. corporate tax rate of 35 percent is among the highest in the world. With Japan and the United Kingdom dramatically slashing their own rates, the United States is even more of an outlier among the G-20 and OECD nations. And 35 percent isn't even the whole story. When you factor in state and local corporate taxes, the OECD says the U.S. statutory corporate rate is about 39.3 percent. That seems awful, considering the United Kingdom's is at 20 percent (and dropping further over the next few years) and the OECD average is 24 percent.
However, the statutory rate isn't all that important. It's effective tax rates that matter. And the U.S. effective corporate tax rate is quite a bit lower than 39.3 percent. The GAO says that the effective corporate tax rate for large, profitable corporations is about 12 percent (although that leaves out state and local taxes). Several studies show an overall effective rate around 25 percent, right at the OECD average. And everyone has read about how large companies like Apple and Google are able to get effective tax rates in the single digits. (And let's not forget the favorite target of Sen. Bernie Sanders, GE, which has spent a lot of the last decade paying basically no corporate taxes.)
The low effective tax rate is why there is no consensus in the business community supporting 1986-style corporate tax reform. Sure, every corporation would love a lower statutory rate. But companies that benefit from deferral, lax transfer pricing rules, separate company accounting, and bonus depreciation don't want to sacrifice to get there. In his tax reform draft, Dave Camp struggled to drop the corporate rate to 25 percent because he was trying to create a revenue-neutral plan. Most in the business community don't want that. They want a lower corporate rate, a territorial system, and preservation of almost all their current benefits.
So the focus on lowering the corporate rate is misplaced. A nominally high corporate tax rate isn't the biggest problem with the U.S. corporate tax system. And it doesn't entirely explain rapidly falling corporate tax receipts. The U.S. tax system's major problem is exactly what the BEPS project has been designed to combat: base erosion. And the factors causing the U.S. tax base to erode are near and dear to U.S. multinationals (and were scrupulously defended by Treasury during the BEPS negotiations). These include out-of-date and poorly interpreted transfer pricing rules, deferral of taxes on income earned overseas, and income stripping using intercompany debt. These rules should be the focus of the next corporate tax reform effort, not a lower rate.
It would be nice if Congress could put together a corporate tax reform plan that lowered the U.S. statutory rate to something closer to the OECD average. But it would be even better if that plan backed up Treasury efforts to stop income stripping using interest payments, included a tax on deemed repatriated foreign earnings, and swept away transfer pricing rules that allow too much income from intellectual property to be sourced to low-tax jurisdictions where little or no actual research or business activity takes place.