US: World's Highest Corporate Tax Rate

On April 1st, 2012, the United States enjoyed the dubious honor of achieving the highest corporate income tax rate in the developed world.

Japan, which had “led” the world rate sweepstakes by a nose, cut its rate below America’s. There’s no hiding from it anymore–our tax system is sending every clear signal it can to larger employers that they should take their capital and jobs elsewhere.

With international capital markets of hundreds of trillions of dollars ready to move to investments that give the highest rates of return, a new book, Debacle, by Grover Norquist and John Lott, shows how much is at stake in getting tax rates right.

How high is our rate?  In order to compare countries, you have to factor in state corporate rates (since some countries have states, and some do not). Using that metric, the OECD reports that the United States has an integrated corporate income tax rate of 39.2 percent. The average among developed nations is 25 percent and falling. 

Every year, countries continue to cut their corporate tax rate.  These countries include our major trading partners. Japan’s rate cut lowered its corporate rate from 40 to 35 percent.  Canada is close to reaching its goal of a 25 percent rate.  Reports swirl that the United Kingdom and Germany are not far behind. This will have a direct impact on the ability of U.S. companies to compete in a global economy, and will likely result over time in capital and jobs flowing from high-tax America to lower tax rate jurisdictions in the developed world.

Why does the marginal income tax rate on corporations matter? Suppose you are a large, multi-national employer. You’re going to invest in a new plant or other enterprise which your financial people tell you will profit the company another $100 million. This initiative will create thousands of new, high-paying jobs wherever you choose to locate. 

You have two good sites in mind: one in Canada, and one in the United States. Canada will only tax away $25 million of your $100 million in profits, since it has a 25 percent tax rate  In the U.S., you would lose nearly $40 million to taxes.  How are you supposed to justify to shareholders paying an additional $15 million in taxes when you didn’t have to? That money could have gone to dividends, stock buybacks, pension funding, wage increases, other investments, or any number of good things for the company. The bottom line is that Canada gets the project and the jobs (as well as the tax revenue), and the U.S. gets nothing.

That’s a small example of how destructive and jobs-killing high marginal tax rates on corporations can be.  In this century, capital is mobile all around the globe. A country cannot impose high tax rates and expect corporations to pay it as captive taxpayers, as governments could do more easily last century. Other countries have realized this, which is why they are competing to make themselves magnets for capital and jobs.

In taxes, decisions are made at the margin. Someone choosing to work an extra hour will want to inquire what his marginal tax rate will be on that activity. If it’s 50 percent, he might not work at all, choosing to pursue leisure interests instead. If the rate is 30 percent, the person might instead choose to work, increasing productivity and making us all better off. Companies are no different. Marginal tax rates matter because they affect behavior.

What about arguments that cutting the corporate income tax rate will only help big companies?  The answer is that companies don’t pay taxes–people do. The corporate income tax is forwarded along to the government by companies, to be sure. But the actual incidence of the corporate income tax comes out in the wash in three ways. First, customers of these companies will pay higher prices for what the company sells. Second, employees of these companies will see their wages and benefits depressed from what they would otherwise be. Finally, shareholders of these companies will find their share prices and dividend yields lower. Given that all of us own most of these companies in our IRAs and 401(k) plans, that means we all have a stake in the corporate income tax rate.

President Obama recently advanced a plan that would reduce the integrated U.S. corporate income tax rate slightly to about 32 percent. While that certainly is the right direction, it presents several fatal challenges. First, that rate would still leave us with a higher tax rate than the developed nation average of 25 percent. Second, the rate would still be higher than all of our major trading partners, excepting only Japan and France. We would still have a higher corporate income tax rate than Canada, the United Kingdom, Germany, and Mexico. Third, the other tax increases he proposes would leave many if not most larger employers worse off, even with a lower rate.

The solution is simple: lower the rate below the developed nation average. This would mean cutting the federal rate to 20 percent or less. The resulting capital and jobs inflow into the United States would make up for any and all static-score tax revenue loss estimates. Instead of being a jobs repellant, the country would once again be on the path to full employment and prosperity, an arsenal of economic strength unparalleled in the developed world. These solutions and others are laid out in Debacle: Obama’s War on Jobs and Growth and What We Can Do Now to Regain Our Future.