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Joseph J. Thorndike

Joseph J. Thorndike

Posted: January 26, 2011 12:27 AM

Corporations like to complain about their taxes. In testimony, statements, and speeches, executives rehearse the same old litany of woe. Rates are too high! We pay too much! We can't compete with foreign companies!

There's a kernel of truth in these complaints. U.S. corporate tax rates are among the highest in the world. And some U.S. companies are paying a lot of taxes. Corporate tax reform, as President Obama declared in his State of the Union speech, is certainly long overdue.

But what sort of reform? Some corporations are paying too much, but others aren't paying enough. We talk about the "business community" like it really exists, but when it comes to tax reform, it's riven by fault lines. Business support for tax reform depends on papering over these divisions in the hopes of procuring a pain-free package of goodies from Congress.

Level playing field?

My colleague at Tax Analysts, Marty Sullivan, has underscored the disparities plaguing the corporate income tax. "The essence of an efficient and competitive tax system is a level playing field," he told the House Ways and Means Committee last week. "Government should not attempt to outguess the market and pick winners and losers. Unfortunately, there is a wide disparity in the tax treatment of businesses under current law."

Wide disparities, indeed. In recent years, General Electric paid taxes at an effective rate of just 3.6 percent, while Home Depot paid 35.4 percent. Merck paid 12.5 percent, while Disney paid 36.5 percent. Pfizer paid 17.1 percent while CVS paid 38.8 percent.

Why do some companies pay so little while others pay so much? Low rates are common, according to Sullivan, in industries where operations and technology can be readily moved offshore to low-tax jurisdictions. By contrast, companies that find their markets here in the United States aren't so lucky. It's hard to ship your customers overseas along with your factories.

Tax disparities within the business sector mean that policy reforms helping one company will end up hurting another. And that makes genuine reform a long shot, since business support for reform is likely to evaporate once talk moves from the general to the specific.

Hands off my loophole!

Multinational companies are doing pretty well under the current tax system, thank you very much. And while they're happy to see statutory rates fall, they aren't so wild about additional reforms that might be used to pay for lower rates. Closing loopholes always seems like a good idea until it's your loophole that's getting closed.

Among multinational corporations with low effective rates (thanks to provisions allowing them to shift profits to overseas subsidiaries), any effort to shore up the tax base is likely to run headlong into a buzz saw of opposition.

In his speech, Obama attributed tax law disparities to the "parade of lobbyists" who have advanced the interests of their clients even as they undermined the tax system as a whole. And he's certainly right. But many of the benefits showered on multinational corporations have been deliberate, designed to encourage the competitiveness of U.S. corporations and protect U.S. jobs.

That's not crazy, but it's not right, either. As Marty Sullivan told Congress:

Yes, U.S. multinationals create jobs. But so do purely domestic corporations. So do small businesses. And so also do foreign-headquartered companies that invest in the United States.

Multinational companies have their own needs and desires, often quite distinct from those of real, live American workers. The tax system doesn't need to penalize multinationals, but it shouldn't favor them either.

Tax favors aren't just unfair, they're also unwise. As the Center on Budget and Policy Priorities has observed, tax disparities distort decision-making, encouraging companies to make investments based on tax consequences, not business fundamentals. Leveling the playing field among corporate taxpayers would help eliminate such distortions, boosting efficiency across the economy.

Goodies for everyone

But if you're hoping for that sort of tax reform, get ready for disappointment. Tax reform is currently all the rage, as evidenced by Obama's endorsement. But the popularity of the idea - especially within the "business community" -- is premised on the unspoken condition that reform means rate cuts without loophole closing. That sort of "reform" neatly avoids creating winners and losers by simply making everyone a winner. At least over the short term.

Over the long-term, however, that sort of reform would be a disaster. It costs about $8 billion for each percentage-point reduction in the corporate tax rate, according to a report from Bloomberg. Unless offset by base broadening, that sort of giveaway is simply unaffordable in our current fiscal climate. Indeed, corporate tax reform should really be used to raise money, not lose it.

Sadly, though, revenue-losing tax reform is still a distinct possibility, despite its patent absurdity. As New York University law professor Daniel Shaviro has observed, "You don't need to rely on broader intellectual consensus if you are simply handing out goodies, rather than mixing them with sour medicine." Business leaders, like Proctor & Gamble CEO Robert McDonald, have been urging precisely that sort of pain-free tax reform.

Obama has made clear that corporate tax reform shouldn't lose money. And maybe he'll stick to his guns, demanding a broader tax base in exchange for lower rates. But as last December's tax deal made clear, there's plenty of congressional interest in further tax reduction, especially among Republicans.

Let's hope Obama will stand up to them. And stand up for real reform.

 

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