Corporate income taxes, inversion, and related issues on which I am not an expert

Corporate income taxes, inversion, and related issues on which I am not an expert July 16, 2014

Oh, the joys of blogging.

For the past several days, I’d intended to write something up on corporate income tax.  The Chicago Tribune has had multiple articles lately on “inversion” — the process in which a U.S.-domiciled corporation acquires a foreign corporation and moves its headquarters to that foreign country, with lower corporate tax rates.  Walgreens, a local drugstore, is considering this move with its acquisition of Alliance Boots, a European drugstore chain headquartered in Switzerland, and recent articles have also described past or potential future such moves by local pharmas.

But last night I couldn’t find the article online that I’d read a couple days ago, one in which the reporter labelled such countries as Ireland and the U.K. as “tax havens” as if they were no different than places such as Bermuda.  And I ended up playing Tetris, and then I noticed that a book was due at the library that I hadn’t gotten around to reading, and soon enough it was past my bedtime.

And then along comes Megan McArdle to share her insights on the corporate income tax:

So here’s my proposal: Eliminate the corporate income tax and take the money from people. That’s what you’re doing anyway, so do it in a simpler, fairer and more progressive way, by raising income taxes on the wealthy and taxing capital income (dividends plus capital gains) more like ordinary income.

To which my first response was:  duh!  Somewhere in my “sent mail” mailbox I’ve probably got a letter-to-the-editor on the topic — because she’s right.  Corporate income tax is a mess, and far too many resources are devoted to dodging it, and corporations are making business decisions not based on what boots productivity but what is most tax-effective.  There are also endless games around which country has the lowest rate, and how taxes are or should be applied in the case of multinational corporations with expenses and revenues worldwide.

There’s one wrinkle, though:

What would corporations do with their “extra” income?  If the U.S. were an isolated economy, it’s easy:  the money is either reinvested in the business, paid out to employees as wages, bonuses, etc., or paid out to investors as dividends.  In the first case, this is a positive, right?  In the second and third instances, the money is taxed after all (and dividends can be treated as ordinary income).  We can boost the tax on high earners on the assumption that corporations will favor them in spending their new-found cash, or just figure that, in the end, even at current tax rates, we’ll take in plenty of additional individual income tax.  (Would this approach also require moving employee benefits into the “taxable income” category?  I’m not sure.)

But:  what about when the corporations move their money overseas — either as salary or dividends to overseas employees or investors, or in order to grow their business abroad (building a new plant, or call center, or the like), or because it’s a foreign company in the first place, and they’re just bringing their revenues back home?

So that’s where my pet idea comes in:  the money is taxed when it leaves the company or the country.  Let’s call it the “2-C” rule.

The “leaves the company” part is easy.  “Leaves the country” is a bit trickier:  do we tax profits that employers use in investment outside the U.S.?  Do we tax profits earned by non-U.S. corporations doing business in the U.S.?  In either case, we’ve still got the mess that is cost center determination for multinationals.

Maybe the alternative is a flat tax, not on profits, but simply on revenues and, quite simply, cash outflow from the U.S.  What’s the right rate?  I don’t know.  When I played around with the idea earlier the sticking point was that I don’t really know what sorts of tariffs we apply on imported goods these days — because, in a way, for those firms that do nothing more than import goods to the U.S., sell them, and take home the profits, such a tax would function, to a degree as a tariff.

My “2-C” idea isn’t as simple as a “let’s dump the corporate tax” approach, but it recognizes the issue of multinationals.  For all you tax experts, it’s a starting point!

Update:  some commenters at McArdle’s blog pushed back on this by saying that at a closely held corporation, the owner-employees could simply spend corporate money to their own personal benefit – e.g, a “company car” and “company-provided housing” and “company trips” to Vegas – but that’s already covered by existing laws on what sorts of benefits are taxable to the employee, centering around whether there’s a legitimate business purpose to the expense or not.

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