Let's Tax The Corporations! Or Should We?

From time to time it becomes necessary to think "outside of the box" and with the fiscal issues faced by our nation, well now is a good time! We face a growing $16.6 trillion debt; an anemic economy; deficits as far as the eye can see; and a national malaise setting in as people are increasingly fearful of a possible economic firestorm created by the debt. The solution to this dilemma hinges partly (or mostly) on rebuilding a strong economic engine that is growing at 4% or more; the question of course is how to do that? The Corporate income tax is an interesting issue to understand as we look to answer that question!

Let's start at the beginning, what is a "corporation"? Simply it is an artificial creation designed to allow one or more individuals to operate in a venture separate from their own individual interests. The corporation files its own financial reports, tax reports and other documents that are necessary to maintain it in "good standing" as a stand-alone enterprise. Under the American tax system, the Corporation pays income tax as if it were a person. The income tax is calculated by taking revenue minus businesses expenses (operating profit) and then applying a percentage just like you do on your personal return. Presently, the corporate income tax begins at 15% and rapidly increases to 35%; although there are two "bumps" that take some up as high as 39%.

Conventional wisdom holds that corporate taxes are just like individual taxes and increases need to be explored if government is going to close its enormous budget deficit. But is this conventional wisdom right? The fact that a corporation is not an individual is relevant here. Assume you run a business that sells coffee and after you buy the coffee beans, buy the cups and lids, and pay the people to operate that coffee making business, you determine that you can sell coffee for $2.00 for a 16oz cup. With that price, you expect to earn $.20 profit (10%) per cup. So the income tax man comes to your shop and says one day, you have to pay tax on that $.20 income you made and assigns a 35% rate to it, or $.07 giving you a NET profit of $.14 from that $2.00 cup of coffee. Now, you have two choices, you can either "eat" that tax bill and see your profit reduced, or you can raise your price to $2.10 giving you a $.30 operating profit which generates a $.10 tax leaving you with $.20. On a micro level a single business might choose to eat the tax so that magic $2.00 price is maintained. However, on a macro level, at the margin, business operators tend to raise the price thereby satisfying their owners and investors by keeping their profit the same. So who really pays the tax in that case?

The reality is that company taxes are not paid by the company because it is not a real person! The taxes it shows on paper are either assigned to consumers (higher prices) or to employees (lower costs) or to the owners and investors in the business. Business must earn a profit to stay in business so the revenues and expenses are their only options to change in response to the tax imposed on them. But no matter how they deal with it, the corporation itself pays nothing but passes its costs onto consumers, employees or owners (dividends).

In addition to this myth that corporations pay any tax to begin with is an issue that also needs to be understood. As businesses deal with taxation and the only options are to increase prices or reduce cost to accommodate the tax, competitiveness slips relative to companies who don't bear that tax burden. The fact that the United States today imposes the highest marginal corporate income tax rate in the world is one of the reasons our economy is so anemic. A U.S. corporation has to deal with a 35% add-on to its costs by raising prices, reducing costs, or reducing the attractiveness of investment by charging shareholders and thus is less attractive than overseas companies who are not saddled with the additional costs. Increasing costs like this only serves to make U.S. products more expensive, which in turn reduces demand which reduces the labor that makes the product or service. So higher taxes lead to a slower economy, and isn't that the opposite of what we're striving for?

In addition to hindering overall economic growth, the burden of the corporate income tax falls on small business much harder than it does big business. When the local pipe manufacturer, car deal, marketing company, or whatever company is making $500,000 the owner is clearly one of our "well off citizens". But that owner is going to pay 39% of that $500,000 to the government. The problem is that right down the street, the large company making $500,000,000 is NOT going to pay 39%, there are instead going to pay dozens of lobbyists and tax lawyers to have rules written and interpreted so that they do not pay the tax. Thus, they have an enormous competitive edge of the small local firm who cannot afford lobbyists and tax consultants. Anyone who doesn't believe this happens need only look to

Illinois where when the state raised income taxes by 40%, the politicians offered exemptions to the largest Corporations who had threatened to move if the tax were applied to them.

There is a third issue as if slowing down the economy and stifling small business weren't enough; because Corporations must return money to shareholders (the owners) who are taxed as individuals, dividends are declared and paid. These dividends are the return of the "profit" and "accumulated earnings" of the company. So I'm retired and decide to invest a portion of my savings into dividend paying companies, it's important to note that those dividends are taxed at a whopping maximum rate of 74%! The reason is that the company "pays" 35% on its earnings and then when it distributes its earnings, the owners pay their income tax now topping out at 39%. If you happen to live in a high tax state, that 74% can rise to over 80%. So, ask yourself this question, if you're retired and need to invest your money to earn an income and decide therefore to purchase stock in dividend paying companies, is that 39% corporate income tax being paid by the Company or by YOU in the form of reduced dividends? The answer of course is that YOU pay the tax, not the Company because it is not a human.

The reality is that in order to get the United States back to a 4% or more economic growth rate, we must reduce or eliminate the corporate income tax all together. This may not be politically popular as the politicians have managed to demonize business in the eyes of many voters, but political shenanigans and lies aside, if people want job security, income security, medical security and education, it must be paid for and a growing economy with productive people are the only real way to get there.

at 1:12 AM
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