Corporate Tax Reform: Be Careful What You Wish For

Pretty much every discussion of tax reform these days ends with an agreement that we need to broaden the base and lower the rates. Well, the White House today will release the broad outlines of a plan to do just that on the corporate side of the federal tax code.

According to advance info from this morning's NYT, the proposal will be to cut the current top corporate rate of 35 percent down to 28 percent, and to close a bunch of loopholes to make up the difference. Some other features include:

  • a lower rate -- 25 percent -- for manufacturers;
  • a minimum tax rate on foreign earnings to discourage tax sheltering by multinationals;
  • added incentives for R&D (probably making that tax credit permanent, something the administration has long supported) and clean energy investments;
  • a bunch of other loophole closures...

And therein lies the rub. It is widely recognized that many corporations already pay far less than the statutory rate -- from the WaPo story on the proposal:

Today, the U.S. corporate tax rate of 35 percent is one of the highest in the world, but an abundance of loopholes and deductions means that many companies pay far less than that -- or nothing at all. Companies in the United States pay almost half the taxes than companies do in other rich countries, compared to the size of the economy, according to the Organization for Economic Cooperation and Development.

Last I checked, we were collecting around 1.3 percent of GDP in revenue from the corporate sector. That's low both in our own historical terms (the average has been about 2 percent over the past few decades) and especially in international terms, despite the fact that we have a higher statutory rate. And it's not just the recession depressing corp revenues, though that's part of it, because corporate profitability is once again soaring.

This tells you two things. First, a lot of companies take advantage of the breaks in the code and second, getting to a revenue-neutral 28 percent will mean taking away a lot of those goodies.

Some of the biggies are accelerated depreciation, interest deductibility, the ability to pass corporate capital gains over to the individual side of the code (where it gets favorable treatment), and a bunch of international loopholes, like deferral -- the ability to avoid U.S. taxation by holding multinational profits overseas.

I don't think today's release will go into much detail on specifics, but the implication is clear: if those who have been clamoring for a lower corporate rate are serious, they need to step up and support these loophole closures.

In that sense, the White House's proposal creates an interesting political challenge. For years now, American corporations and their reps here in D.C. have been calling for a lower rate while at the same time availing themselves of billions in tax breaks that have kept them from paying the statutory rate. In my debates with supply-siders, they're all about the rate... they're happy to trade more base for points off of the rate. In the next chapter of this debate, we'll get to see how much they meant it.

Everyone loves the first part of the mantra: lower the rates. Now let's see how the feel about the second part: broaden the base.

This post originally appeared at Jared Bernstein's On The Economy blog.