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Missing the Biggest Point on Corporate Tax Reform

One of the latest developments in this season’s unusual Republican primary competition is the fisticuffs between Marco Rubio and Ted Cruz over each other’s proposed corporate tax reforms, although either proposal would be a significant improvement over our current absurd and harmful corporate tax regime.

Tax reform that lowers our very high corporate tax rate and eliminates our nonsensical international tax regime is worthwhile and would almost certainly stimulate increased economic growth and job creation, as IPI has repeatedly argued.

But why do we even have a corporate income tax?

Let’s say Corporation X had a $2 million tax bill in 2015. Taxes are a business expense like any other expense, and the money to pay business expenses has to come from somewhere. So where did the money come from? In other words, if Corporation X did not have to pay $2 million in taxes, where would that money have gone?

There are only three possible places. If you cut Corporation X’s expenses by $2 million, that could mean 1) higher pay for employees, 2) higher dividends for shareholders, and 3) lower prices on its products or services.

This demonstrates that a corporation’s taxes are actually paid by some combination of its employees, its shareholders, and its customers.

  • If you work for Corporation X, you are paying its taxes, because otherwise you could be earning higher pay or better benefits.
  • If you own stock in Corporation X, you are paying its taxes, because its taxes reduce the dividends and interest it pays its shareholders and bondholders.
  • And if you buy from Corporation X, you are paying its taxes because a share of its taxes are embedded in the price you pay for its products.

So the corporate tax is actually a hidden tax on employees, shareholders and consumers. When we raise taxes on corporations, they simply pass the tax along in the form of lower wages, lower dividends, and higher prices.

The corporate tax is also a double tax in that the corporation’s earnings are taxed once through the corporate tax but then again through the shareholder’s dividend taxes, the employee’s income taxes, and the customer’s sales taxes.

Because the corporate tax is both a hidden tax and a double tax, the most sensible corporate tax rate should be zero. In fact, there was no corporate income tax in the United States until 1909, and even today the corporate tax provides only about 9 percent of federal revenues.

What would happen with a zero corporate tax rate? An explosion of economic growth and job creation, and a mad dash of overseas companies re-incorporating in the United States. U.S. companies would move immediately to bring trillions of dollars in overseas profits “back home,” and that money would be put to work in our economy, not buried in a hole somewhere behind corporate headquarters.

It would also put a huge swath of lobbyists out-of-work, which would no doubt be viewed as a negative to tax lobbyists, but probably as a positive to most Americans!

Yes, it would take political courage and a commitment to voter education to explain why eliminating the corporate income tax would actually be good for them, so that would be a challenge. But why not phase out the corporate income tax over a decade or two as part of fundamental tax reform?