European Corporate Tax Reform and U.S. Corporate Tax Policy

In an article in this week’s Tax Notes, Martin Sullivan explores the wave of corporate tax reform in Europe (which we recently blogged about here). In the article, Sullivan posits that corporate tax reform in Europe is not about competing for investment but instead is designed to minimize the incentives for profit-shifting.

Sullivan gives three reasons to support his theory:

• First, he notes that a recent Congressional Budget Office (CBO) report posits that competition for capital investment is most often pursued through tax incentives, and not reductions in the corporate income tax rate • Second, he notes that the same CBO report also posits that profit shifting is highly sensitive to the corporate income tax rate • Third, he concludes that European countries are reducing their corporate tax rates (and, in some cases, broadening their corporate tax bases) in order to increase corporate tax revenues, not compete for investment

If Sullivan is correct, then it bolsters the famous Laffer Curve theory about the relationship between tax rates and the amount of tax revenue collected. This chart (replicated from our recent report on worldwide tax rates) bolsters Sullivan’s claim and its connection to Laffer’s theory. The chart (originally put together by the OECD) shows a negative relationship between OECD country tax rates and the amount of revenue they collect as a percentage of GDP. It shows, as Sullivan posits, that some countries do have higher corporate revenue collections with lower tax rates on corporate income.

Near the end of his article, Sullivan predicts that the 2008 presidential election will feature a debate over reducing the U.S. corporate tax rate to 25 percent, and that the Democratic candidate may support this effort in order to boost corporate tax collections. As we showed in our report on worldwide tax rates, the U.S. would have to reduce its corporate rate to at least 25 percent just to move to the middle of the pack in the OECD.