At approximately 39 percent (the combined federal and average of state and local rates), the United States has the highest marginal corporate taxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. rate in the OECD and the third highest in the world. This is often cited as an important reason why the United States should reform its corporate income taxA corporate income tax (CIT) is levied by federal and state governments on business profits. Many companies are not subject to the CIT because they are taxed as pass-through businesses, with income reportable under the individual income tax. .
While important, the statutory rate isn’t the only thing that matters with respect to corporate taxation. The U.S. corporate tax and corporate tax codes throughout the world are filled with credits and deductions that impact both corporate investment behavior and how much corporations end up remitting in tax. And just as the statutory rate varies across the world, these deductions and credits vary.
It turns out that even when one accounts for the various credits and deductions available in the United States and elsewhere, the U.S. places an above-average burden on corporations.
Using 2012 data, the Congressional Budget Office recently released a report comparing the United States corporate tax to the corporate tax systems of the other G20 nations using three measures: the statutory tax rate, the average effective tax rate, and the marginal effective tax rate.
Each of these measures matter and impact corporate behavior in different ways.
The statutory tax rate is the rate levied on the next dollar of taxable profit. While this measure leaves a lot of information out, such as deductions and credits that reduce liability, it can have an impact on some business’s decisions by itself. One important decision it has an impact on is the location of profits. If the next dollar of profits is taxed at the statutory rate, companies have an incentive to locate their profits in countries with lower statutory tax rates. All else equal, high statutory tax rates tend to drive profit shiftingProfit shifting is when multinational companies reduce their tax burden by moving the location of their profits from high-tax countries to low-tax jurisdictions and tax havens. .
The average effective tax rate is basically the amount of tax a corporation in a country pays divided by its income. As an all-in measure of tax burden, it considers the statutory tax rate, deductions, and any credits that reduce a corporation’s tax liability. Companies may look at the average effective tax rate when deciding which country to locate a new investment. All else equal, a company would rather put an investment in a country with a lower average effective tax rate because that investment will provide higher returns net of tax over its life.
The marginal effective tax rate is the tax corporations pay on a marginal investment, or an investment that makes just enough (in present value terms) to satisfy an investor, net of tax. This tax rate is mainly a function of the statutory tax rate and deductions corporations can tax on new investments, such as depreciationDepreciation is a measurement of the “useful life” of a business asset, such as machinery or a factory, to determine the multiyear period over which the cost of that asset can be deducted from taxable income. Instead of allowing businesses to deduct the cost of investments immediately (i.e., full expensing), depreciation requires deductions to be taken over time, reducing their value and discouraging investment. allowances. The marginal tax rateThe marginal tax rate is the amount of additional tax paid for every additional dollar earned as income. The average tax rate is the total tax paid divided by total income earned. A 10 percent marginal tax rate means that 10 cents of every next dollar earned would be taken as tax. determines how much a company is willing to invest in a given country. The lower the marginal tax rate on new investment, the lower the pre-tax returns on those investments need to be to satisfy investors on an after-tax basis. As such, companies are more likely to pursue more investment projects when the marginal rate is lower.
| Source: CBO | |||||
| Top Statutory Corporate Tax Rate | Average Effective Corporate Tax Rate | Marginal Effective Corporate Tax Rate | |||
|---|---|---|---|---|---|
| Country | Rate | Country | Rate | Country | Rate |
| United States | 39.1% | Argentina | 37.3% | Argentina | 22.6% |
| Japan | 37% | Indonesia | 36.4% | Japan | 21.7% |
| Argentina | 35% | United States | 29% | United Kingdom | 18.7% |
| South Africa | 34.6% | Japan | 27.9% | United States | 18.6% |
| France | 34.4% | Italy | 26.8% | Brazil | 17% |
| Brazil | 34% | India | 25.6% | Germany | 15.5% |
| India | 32.5% | South Africa | 23.5% | India | 13.6% |
| Italy | 31.4% | Brazil | 22.3% | Mexico | 11.9% |
| Germany | 30.2% | Russia | 21.3% | Indonesia | 11.8% |
| Australia | 30% | South Korea | 20.4% | France | 11.2% |
| Mexico | 30% | Mexico | 20.3% | Australia | 10.4% |
| Canada | 26.1% | France | 20% | China | 10% |
| China | 25% | Turkey | 19.5% | South Africa | 9% |
| Indonesia | 25% | China | 19.1% | Canada | 8.5% |
| South Korea | 24.2% | Australia | 17% | Saudi Arabia | 8.4% |
| United Kingdom | 24% | Canada | 16.2% | Turkey | 6.1% |
| Russia | 20% | Germany | 14.5% | Russia | 4.4% |
| Saudi Arabia | 20% | United Kingdom | 10.1% | South Korea | 4.1% |
| Turkey | 20% | Italy | -23.5% | ||
The United States’ corporate tax ranks relatively high on all three measures. The U.S. has the highest statutory rate (39.1 percent), the third highest average effective tax rate (29 percent), and the fourth highest marginal effective tax rate (18.6 percent).
The CBO methodology isn’t perfect. Its methodology leaves out individual-level taxes on investment, which have an impact on investment behavior. In addition, its average effective tax rate measure for the United States and other countries is not perfectly comparable due to some data limitations. However, these findings are roughly comparable to the findings of other studies that have attempted to compare countries’ corporate tax systems with alternative methodologies.
The CBO report shows that the United States places a relatively high burden on corporations across multiple measures. It shows why I often argue that the current corporate income tax discourages investment and encourages profit shifting. Reforms to the corporate income tax that aim to reduce these distortions, such as a lower statutory tax rate, full expensingFull expensing allows businesses to immediately deduct the full cost of certain investments in new or improved technology, equipment, or buildings. It alleviates a bias in the tax code and incentivizes companies to invest more, which, in the long run, raises worker productivity, boosts wages, and creates more jobs. , or replacing it for something entirely different, would significantly improve the way in which corporations are taxed in the United States.
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