Reducing federal corporate income-rate would likely have largely beneficial effects, economist says

LAWRENCE — President Donald Trump's proposal to cut the corporate income tax rate to 15 percent as part of his tax policy plan has gained considerable media attention this week.

A University of Kansas economist in available to discuss the potential influence of the policy change and the issues surrounding it.

George Bittlingmayer, Wagnon Distinguished Professor of Finance in the School of Business, among a broad scholarly portfolio researches the effect politics and regulation have on business and financial markets as well as mergers and acquisitions. He has served as a visiting economist at the Federal Trade Commission.

Q: What is the general key context behind the corporate income tax rate?

Bittlingmayer: The automatic response of many people seems to be that of course corporations should pay high tax rates. In practice, corporate taxes are paid for by a combination that includes not just shareholders, but also consumers and workers. In fact, shareholders may not pay the tax at all because they equalize their net returns across different types of investments, and they can invest abroad or in U.S. business entities that are largely tax-free. However, even if shareholders don’t pay the tax in an economic sense, the corporate income tax still distorts how corporations finance themselves. It also bears emphasis that a very large fraction of corporate America is owned by middle-class investors through their pensions, retirement accounts and savings.

Q: What could potentially be the effect of reducing the corporate income tax rate to 15 percent?

Bittlingmayer: Regardless of one's views of Trump, from the view of many, if not most, economists, the corporate income tax imposes distortions, and a substantial reduction is likely to have largely beneficial effects.

Q: How could a rate cut have a potential positive effect?

Bittlingmayer: One major economic argument against the corporate income tax is that it represents "double-taxation," with income being taxed once at the corporate level and a second time when the shareholder gets a dividend or realizes a capital gain. This means that the tax system penalizes the corporate form of organization and pushes businesses into other forms of organization that let profits to be taxed only once at the taxpayer level.

In addition, the taxation of corporate income along with the tax deductibility of interest payments provides an incentive to use debt, with the associated risks. The result is fewer businesses choosing the corporate form, and more of those that do end up using debt as a form of finance than they otherwise would. Finally, the relatively high U.S. corporate tax rate has been one major factor contributing the stockpiling of cash abroad by U.S. technology firms like Apple, which has a reported $181 billion stashed outside the United States.

Q: How does the current U.S. corporate income tax rate compare with rates in other countries, then?

Bittlingmayer: Internationally, advanced economies have been lowering their corporate rates, and at the current U.S. nominal rate of 35 percent is among the highest in the world. Research by economists at the Organisation for Economic Co-operation and Development, or OECD, the Federal Reserve and elsewhere supports the conclusion that high corporate tax rates hurt economic growth.

Paradoxically, federal corporate taxes represent only about 11 percent of federal tax revenues, with the bulk of federal tax receipts coming from income and payroll taxes. This is partly testimony to the ability of corporations to shield themselves from the tax. In practice, they pay at a rate of only about 22 percent. It is also testimony to inefficiencies that tax generates. Sharply lowering corporate taxes will let companies decide their form of organization and the amount of debt they take on based on the underlying merits, rather than the incentives created by the tax system. 

Q: What about considerations of the federal budget deficit?

Bittlingmayer: Treasury Secretary Steven Mnuchin predicts that the package that includes sharply lower corporate taxes would create growth in the economy and no resulting decline in federal revenues. That seems a bit wishful, but a rough halving of the nominal corporate tax rate is unlikely to reduce federal corporate tax revenues by the same percentage because corporations would have less incentive to avoid the tax.  

Any decline in corporate tax revenue has to be weighed against putting U.S. corporations on an even footing with foreign corporations, reducing the incentive of corporations to hoard cash abroad and reducing the incentive of companies to use tax-advantaged debt when seeking new financing.