U.S. Corporate Tax Rate Fails to Move with Competition

March 20, 2013
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According to OECD data on Non-Targeted Corporate Income Tax Rates, in 2012 the United States had an adjusted central income tax rate of 32.77% and a sub-central corporate income tax rate of 6.36% for a combined effective tax rate of 39.13%, for the second highest rate in the OECD. Although this number is relatively high today, historically, the corporate income tax rate is lower than in previous years. In 1981, the adjusted central government corporate income tax rate was 42% and the sub-central corporate income tax was 6.9% for a combined rate of 48.9%. However, in today’s world of increasing globalization, our comparatively higher rate puts the United States at a disadvantage.

Though corporations consider many factors when making decisions about where to locate and how to allocate their profits, but they increasingly consider the corporate tax rate of a country compared to other similar countries. In order to remain competitive and to enhance growth, many OECD countries have reformed their corporate income tax by decreasing the rate and broadening the base. The United States reduced rates as part of the 1986 Tax Reform Act. Germany responded in 2000 and 2008 by reducing their statutory corporate income tax rate from 45% to 25% to 15%. Similarly, the United Kingdom has lowered their corporate income tax rate gradually from 52% in 1981 to 24% in 2012 The corporate income tax rate will continue to fall in the United Kingdom to 21% in 2014 and then to 20% in 2015.

In general, a lower rate decreases the distortion and deadweight loss created by the corporate income tax rate. Distortion arises when businesses opt to remain as sole-proprietors, partnerships, or S-corps in order to avoid the corporate tax instead of expanding and structuring themselves as a corporation. Deadweight loss results from the increase in the price and the reduction in the quantity of goods or services produced by corporations below the welfare maximizing market equilibrium. The cost of the taxes can be passed on to consumers through higher prices and fewer goods and services, to the employees through lower wages or fewer jobs, or to capital holders through lower rent or returns on property, stocks, bonds, dividends etc. Thus, society, as a whole, loses.

This graph shows that the United States combined corporate income tax rate has not fallen as drastically as other OECD countries.  The combined corporate income tax rate for the United States has only fallen by 10.57% from 1981 and 2012. Given that the United States already had a high corporate tax rate in 1981, the United States corporate income tax rate remains substantially higher than comparable OECD countries.

Although the OECD adjusted combined corporate income tax rate of 39.54% for Japan was slightly above the United States’ rate in 2012, the Japanese Ministry of Economy, Trade, and Industry estimates that their state’s statutory corporate income tax reduction from 30% to 25.5% will lower their effective combined corporate tax rate to 38.01% and then to 35.64% in 2015 after a temporary surtax.

Thus, with the highest effective corporate income tax rate among comparable countries, the United States will need to address whether the excess revenue gained (if any) from maintaining the highest corporate income tax justifies the losses incurred to society from lower employment and wages, lower capital investment and returns, higher prices and lower quantity of goods, and slower economic growth.

See also: Japan’s New Rate

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