Tax Analysts Blog

Stick a Fork in It: Is the Corporate Income Tax Done?

Posted on Jun 18, 2014

The corporate income tax is dying. Which is hardly surprising, since it’s getting on in years. It’s a 19thcentury levy struggling to hang on in a 21stcentury economy. And the prognosis is bad.

The numbers show a tax in decline. Over the past six decades, the corporate levy has played a shrinking role in federal finance. In the early 1950s, it provided roughly 30 percent of total revenue. Nowadays, it delivers about 10 percent.

Not a good sign.

But there’s an even better indicator of poor health when it comes to elderly taxes: rampant avoidance.

An old tax is a good tax, according to the old maxim. And that saying might even be true – at least up to a point. But a really old tax is sometimes a very bad tax, if only because old taxes can be easier to avoid. Old taxes often fall behind modern realities, and when they do, tax avoidance skyrockets.

That’s what’s happening to the corporate income tax right now. The tax made its modern appearance in 1909, but in the century since, companies have gotten pretty good at sidestepping it. And recently, corporations have upped their game. Companies like Medtronic, which recently announced plans to acquire Ireland-based Covidien in an inversion transaction are prepared to abandon America (or at least their legal domicile here) in search of valuable tax benefits.

As my colleague Marty Sullivan has pointed out, inversions don’t always save companies a lot of money on the front end, chiefly because many corporations are so skilled at avoiding the corporate tax in the first place; their effective tax rates are already low. But even skilled tax avoiders stand to gain other tax advantages from an inversion, including the ability to repatriate profits currently held offshore without incurring additional U.S. taxes.

Whatever their motives, American companies (while they still are American companies) have been engaging in some pretty sophisticated tax avoidance. And the fact that they are able to circumvent the corporate tax with relative ease (albeit with a lot of high-priced legal advice), tells us something important about the corporate tax itself: It’s ill-suited to a globalized world economy where capital moves across borders easily and rapidly.

Indeed, the corporate tax was designed for a slower, more sedate, and more insular American economy. It was made for a world in which American companies were expected to remain American companies, regardless of the tax burdens foisted upon them (although corporate leaders were certainly vocal about the cost of that burden, both to shareholders and workers).

Eventually, the corporate tax will succumb to the ravages of its changing circumstances. And when it does, it won’t be the first tax to die of old age. In the late 19th century, the general property tax was a mainstay of American public finance at the subnational level. For decades, it raised a lot of money and paid for a lot of government services.

But the general property tax was best suited for taxing things that people could actually lay their eyes on: land, buildings, vehicles, and the like. It was not very useful for taxing intangible forms of property, including financial instruments. And as these instruments grew more popular during the latter half of the 19th century, the general property tax got a lot less general and a lot more real, in the sense that it increasingly applied only to real estate.

By the dawn of the 20th century, the general property tax was shouldered chiefly by those people who couldn’t escape it – people with jobs and professions who left their assets visible to the tax assessor’s curious eye.

Eventually, tax reformers grew tired of the sham, and they replaced the general property tax with a combination of other levies. On the one hand, they continued to tax real property and some other, obvious forms of tangible property, like automobiles. But to make up for revenue lost in the transition from general property taxes, they also added a new levy, one that was modern and sleek and specifically designed for the 20th-century economy: the income tax.

Today, the income tax has itself become pretty creaky; it’s no longer the sleek and shiny new tax it was a century ago. Political leaders would be well advised to look for some sort of replacement, at least for the corporate version of the levy. Some sort of broad-based consumption tax, like a value added tax, seems especially promising.

Of course, many people will dislike that idea. Polls suggest that Americans like to tax corporations – it just feels fair to them.

Unfortunately, you can't always tax the things you want to tax. Sometimes you have to be content with taxing the things you can tax. And increasingly, consumption – not corporate income – seems to fit the bill.

Read Comments (4)

edmund dantesJun 17, 2014

Although I agree with you that the current corporate income tax has to go, I
disagree that a VAT is sensible substitute.

Much easier, and more politically palatable, would be to take just two steps:
Allow tax-free repatriation of foreign profits (which the general public
doesn't understand anyway) and slash the top tax rate to 15%. At that tax
rate, we'd be competitive with the world again. At that tax rate, the payoff
for elaborate tax planning goes way down.

With those two changes, I believe we'd return to 4% annual GDP growth, we'd
end the inversions, and we'd unleash a flood of new tax revenue. Of course, it
couldn't be scored that way, the dynamic response is too uncertain, so it could
never get through the Congress.

The idea needs a JFK or a Reagan to champion it.

david brunoriJun 17, 2014

Joe, First Marty points out the difficulties of taxing corporate income. Now
this! Great post. I say let the CIT go the route of the general property tax.

robert goulderJun 18, 2014

All roads lead to VAT ... it just happens to be a rather long and bumpy road in
the case of the United States.

Jeffery L. YablonJun 24, 2014

Let's not forget that corporations do not really pay the corporate income tax.
They merely collect it and pass it on to some combination of shareholders,
customers and employees. As a matter of politics, however, it may be the
perfect tax because the people who really pay it don’t realize that they are
doing so.

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