The Corporate Income Tax in the United States

What is the Corporate Income Tax in America?

Compliance Costs

Corporate Reaction

Moving Forward

Effects on COGD

What is the Corporate Income Tax in America?

On April 1, 2012 Japan cut its corporate income tax rate, making the United States’ corporate income tax (CIT) rate the highest in the developed world. Since other countries do not necessarily have subnational member states, an accurate comparison of the United States’ corporate rate requires integration of the state and national rates. The integrated federal/state corporate income tax rate is 39.2 percent.

Not only do American corporations now pay the highest corporate income tax in the world, they are also subjected to double taxation in the United States’ worldwide taxation system. Their profits are taxed once in the foreign country in which their company is operating and then a second time to make up the difference between rates. Since companies face no double taxation penalty until the funds are repatriated or when the profits are paid out as dividends, the current system encourages corporations to keep their profits overseas and invest abroad.

Compliance Costs

During the 2010 fiscal year, corporate income tax returns amounted to 9 percent of federal tax revenues.54 The tax revenue accounts for 2.7 percent of GDP, accounting for an estimated $422 billion.55 The full cost of paying taxes, however, is a much larger expression than the amount on the return. Compliance costs present a significant burden for companies as well. Compliance costs account for tax planning, filing paperwork and any other hassles caused by the complexity of the tax code. A National Taxpayers Union study found that in 2009, corporations paid $159 billion in compliance costs. This means private companies are paying nearly forty cents in administrative costs for every dollar they send to the federal government in revenue.

Corporate Reaction

Corporate income taxes distort economic decisions as well as reduce the economic well-being of the nation. In the United States, the average federal/state integrated corporate income tax rate is 39.2 percent while the average corporate income of Organization for Economic Co-Operation and Development (OECD) nations is only 25 percent. In fact, amongst the four other countries with the highest corporate income tax rate 24 states in America have an integrated rate higher than Japan, 32 have an integrated rate higher than Germany, 46 states have an integrated rate higher than Canada and all 50 states have a higher integrated rate than France.

Country Corporate Income Tax Rate
United States of America 39.2%
Japan 35.0%
France 34.4%
Germany 30.2%
Mexico 30.0%
Canada 27.6%
OECD Average 25.0%

The following table compares the integrated state rates to other national rates:

Country/State Corporate Income Tax Rate
Iowa 41.6%
Pennsylvania 41.5%
Minnesota 41.4%
Massachusetts 41.2%
Alaska 41.1%
Japan 35.0%
France 34.4%
Germany 30.2%
Mexico 30.0%
Canada 27.6%

What does this mean for investment?

The United States is one of the only countries in the world that taxes income earned overseas when it is brought back to the country. As a result of having the highest corporate income tax rate among OECD nations, United States’ competitiveness for investment continues to spiral. A recent study released by the National Bureau of Economic Research finds that corporate tax rates have negative impacts on aggregate investment, foreign direct investment and entrepreneurial activity. More specifically, researchers found that a 10 percent increase in the corporate tax rate is associated with a reduction in aggregate investment to GDP ratio by two percentage points. This incentivizes firms to keep their earnings overseas.

Currently, there is an estimated $1.4 trillion American-made dollars sitting in foreign bank accounts. Instead of bringing capital back to the United States to create jobs, increase wages, fund pensions or grow nest eggs, firms are keeping these funds abroad. In 2005, the Bush Administration oversaw a Repatriation Holiday, giving US multinational corporations a temporary, substantial relief from double taxation of profit. The effective corporate income tax rate was lowered to 5.25 percent. During the year of repatriation over $300 billion flowed back to the United States, providing over $20 billion in new revenues.

Had a similar holiday taken place in 2012, the United States would have experienced a capital inflow of over $800 billion at minimum. As a result, the Treasury could have expected at least a $40 billion windfall in tax revenue. This would have been non-inflationary wealth that could create jobs and investments in America.

Moving Forward

In the President’s Framework for Business Tax Reform, the US Treasury notes that the current corporate tax rate is “uncompetitive and inefficient.” Despite the realization that America’s corporate tax rate is too high, Obama’s “reformed,” corporate tax rate is really a masked tax hike. The framework for reform cuts the CIT rate from 39.2 percent to 32.3 percent, which is still higher than the OECD 25 percent average, leaving the US behind all other nations except Japan. Even though Obama calls for a reduction in the CIT rate, he is also calling for a global minimum tax rate and the removal of provisions in today’s law that alleviate some of the disadvantages American corporations face in today’s corporate tax system.

Even if Obama cut the CIT rate to 25 percent in his proposal, the US integrated rate would still be at a high of 29.8 percent, only ahead of two major trading partners: France and Japan. In order to be in a competitive position, the United States rate should be 20 percent. At this rate, the federal/state integrated rate would be 25.1 percent, exactly where the United States needs to be for competing with all major trading partners.

Lowering the corporate rate to a competitive level is only half of the battle—the current practice of double taxation of corporate profits must also be addressed. While the US still utilizes a worldwide taxation system, most countries use a territorial system. Territorial taxation is a tax system in which a corporation’s profits are only taxed in the country in which they are earned. This system, which could be galvanized by a round of repatriation to move towards a territorial tax regime, would relieve firms operating globally of the disadvantage they face compared to companies from Japan, Canada, and Germany.

Effects on COGD

The high corporate income tax rate not only stymies the United States’ global competitiveness, it also impacts laborers. Measuring the impact from the CIT rate on COGD, we estimate the impact of compliance costs and CIT tax revenue. This year, the average laborer will toil an additional 13.84 days to pay for the costs associated with the current corporate income tax rate.

Cost $ (in billions) Laboring Days
Compliance Cost $170.52 3.98 days
Tax Revenue $422 9.86
Total $592.52 13.84 days

 

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