Lowering corporate income taxes in the United States is never very popular, yet US corporate tax rates are some of the highest in the world at 35%.
I blame this partially on the media, which publishes stories on issues like General Electric’s low 2010 tax bill.
There exist two reasons why companies do not pay US corporate taxes. In the case of General Electric, it had large losses which it could carry forward against future income. GE Money Bank, which issued anything from credit cards to subprime car loans, wasn’t exactly a downturn success story. If a company loses $500 million in one year, it can carry forward those losses against $500 million in future income.
The second reason is not so easily justified, at least to the voting public. Companies resist paying US corporate income taxes because US income taxes are too high.
Pay 35% or 15%…or 2.4%
Large, multi-national businesses have a leg up on their purely domestic competition. An American-based company that earns income in other countries can avoid hefty US taxes by “investing” in quality legal and tax teams.
Google is a perfect example. The company pays most of its taxes in Ireland, using two subsidiaries to register most of its profits abroad. Another capital “flight” (hehe) to the Cayman Islands and this tax deferral strategy really starts to bring in the benefits. Google paid a 2.4% tax rate in 2010.
Of course there are downsides to “Double Irish” tax deferral. For one, Google only temporary delays paying US taxes. Once the capital is moved back to the US – bam! Uncle Sam wants Google to pay up. Thus, most tech companies keep their cash overseas. And boy, tech firms sure have a lot of money!
Accounting + Finance
When you put accountants and financiers together you have a match made in heaven. Accountants know bringing cash back to the US is a bad idea, as it will generate a tax liability. Financiers know debt is not income, and thus rally the troops to issue new, local debt. Google (or any company with overseas cash) issues debt in the US to finance operations without triggering a cash tax burden.
In May, Google sold some $4.2 billion in corporate bonds (see Google’s capital structure) to raise funds for domestic operations. The firm has cash, $44.6 billion as of the last quarterly report, but as you can imagine that cash isn’t on US shores.
Paying a low rate of tax-deductible interest is much better than paying a very high, one-off charge for cash taxes. Besides, Google is banking on a tax holiday that would allow it a one-time chance to bring money back to the US.
Google would prefer to pay a minute amount of tax-deductible interest on US fundraising operations while its lobbyists work their magic for a one-time tax holiday.
Tax Holiday Politics
Tax holidays are nothing more than corporate welfare. Advocates say that allowing companies to bring cash back to the US without paying income taxes would create jobs. Opponents say previous tax holidays have generated very little net job creation.
The opposing viewpoints are equally ill-informed talking points that you would expect to come out of the mouth of a used car salesman – or Dave Ramsey. This really is a pathetic debate. The political right knows that low long-run tax rates create economic output, so it advocates for low rates in the short-run – a one-time tax holiday. The political left knows that the last tax holiday hardly resulted in economic activity, so naturally a long-run reduction in US corporate income tax rates would have the same immeasurable effect.
Both sides of the debate are correct in their assertions – low rates in the long-haul spark economic activity just as low rates in the short-run do not. Yet, one side wants a short-run tax holiday (with no long-term change to tax rates), and the other side wants no tax holiday nor long-term tax reductions for corporations. Figure that one out.
Drop the Corporate rate to 2%
Since Google managed a 2.4% effective tax rate, it should be the goal of the United States to undercut Google in its tax avoidance. Instead of a high tax rate that encourages companies to pay other countries’ tax rates, we should incentivize companies to pay our low tax rates.
It makes perfect sense. Every corporation in the world would love to operate in the United States, where political stability and private property rights are well respected. Besides, we already have the best financial markets in the world – companies would flock here in numbers. Those that don’t relocate would at least move as much of their productive capacity as is necessary to claim the United States as the home country for their business operations.
And let’s not forget the companies that are not large enough to play tax games with the big boys. Small, growing start ups can’t afford overseas legal teams, and pay the full cost of US taxes. Larger, established businesses with a local (usually physical) product don’t enjoy the same favorable tax conditions as do firms that create mostly intellectual property.
Corporate Taxes Aren’t a Big Winner
A full 8% of all government revenues come from US corporate income taxes:
Corporate taxes generate less than $200 billion in revenues for the US government, an amount that is easily ecilipsed by the job creation, economic activity, and general increase in valuations that would come as a result of a permanently low tax rate. Take, for example, my favorite little health care company, Metropolitan Health Networks, which is entirely US-based. The company’s net income would grow by 50% if taxes were dropped to 2%.
My shares, then, would also gain by 50% overnight. I would pay a 15% capital gains tax on my earnings. See, this is perfect!
We rock the world in intellectual property. No other country can match the American dominance in consumer and business technology. Google, Apple, Microsoft – they’re all US-based firms. We absolutely kill in the sciences, too. Look to health care and pharmaceuticals, two industries where American firms open a can of whoopass.
All of these industries have one common thread: they all produce intellectual property. These businesses destroy all the competition because they enjoy access to a well-educated American workforce plus US corporate tax policy that gives favors to their profits “earned” from intangibles – coding, design work, patents, etc.
The United States could have the same tech success story in every single industry if it would allow for every industry to enjoy favorable corporate income taxes. It is certainty. All it takes is a little practical algebra to find a common link between what firms do well, and what firms do not. Just think what we could do for manufacturing in the United States, for example, if manufacturers paid the same effective 2% tax rate that producers of intellectual property pay. (Conveniently, companies based on intangibles have virtually zero regulatory oversight. That’s another topic for another day.)
Let’s level the playing field so that we can see success in every industry to the same degree that we see it in technology and finance, two industries that easily operate in the US yet offshore their tax burden.
Jobs Program, baby!
With US corporate taxes at 2% of profits, companies would flock to the United States to make it their go-to place for business. They’d set up shop in the ailing US commercial real estate market, boosting property valuations.
Companies would hire US workers to fill their brand new headquarters. These US workers, previously unemployed, would begin to pay income taxes once more. Stock valuations would soar for wholly US-based companies, pushing soon-to-be retirees into full blown retirement. New workers would fill their positions, sending the unemployment rate even lower. We’d import new talent to the United States, and new industries.
A rising tide really does raise all ships!
So why won’t the US government lower corporate income taxes? Because any financial debate in this country is excused from intellectual consideration. It’s always a rich vs. poor argument, even though the interests of any classes in a jobless America are perfectly aligned.