Corporate Tax Reform: Issues for Congress (70 pages, December 3, 2021)
In 2017, the corporate tax rate was cut from 35% to 21%, major changes were made in the international tax system, and changes were made in other corporate provisions, including allowing expensing (an immediate deduction) for equipment investment. Recently, proposals have been made to increase revenue from corporate taxes, including an increased tax rate, and revise the international tax provisions to raise revenue. These revenues may be needed to fund additional spending or reduce the deficit.
Some level of corporate tax is needed to prevent corporations from becoming a tax shelter for high-income taxpayers. The lower corporate taxes adopted in 2017 made the corporate form of organization more attractive to individuals. At the same time, higher corporate taxes have traditionally led to concerns about economic distortions arising from the corporate tax and newer concerns arising from the increasingly global nature of the economy. In addition, leading up to the 2017 tax cut, some claimed that lowering the corporate tax rate would raise revenue because of the behavioral responses, an effect that is linked to an open economy. Although the corporate tax has generally been viewed as contributing to a more progressive tax system because the burden falls on capital income and thus on higher-income individuals, claims were also made that the burden falls not on owners of capital, but on labor income—an effect also linked to an open economy.
The analysis in this report suggests that many of the concerns expressed about the corporate tax are not supported by empirical evidence. Claims that behavioral responses could cause revenues to rise if rates were cut do not hold up on either a theoretical or an empirical basis. Studies that purport to show a revenue-maximizing corporate tax rate of 30% (a rate lower than the prior statutory tax rate) contain econometric errors that lead to biased and inconsistent results; when those problems are corrected the results disappear. Cross-country studies to provide direct evidence showing that the burden of the corporate tax actually falls on labor yield unreasonable results and prove to suffer from econometric flaws that also lead to a disappearance of the results when corrected, in those cases where data were obtained and the results replicated. Many studies that have been cited are not relevant to the United States because they reflect wage bargaining approaches and unions have virtually disappeared from the private sector in the United States. Overall, the evidence suggests that the tax is largely borne by capital. Similarly, claims that high U.S. tax rates created problems for the United States in a global economy suffer from a misrepresentation of the U.S. tax rate compared with other countries, because the comparisons focus on statutory rate. Tax rates are less important when capital is imperfectly mobile, as it appears to be, and because these concerns did not address the fundamental issues of efficiency in international taxation.
Although these new arguments appear to rely on questionable methods, the traditional concerns about the corporate tax appear valid. Although an argument may be made that the tax is still needed as a backstop to individual tax collections, it does result in some economic distortions. These economic distortions, however, have declined substantially over time as corporate rates and shares of output have fallen, even before the 2017 tax cut. Lower corporate taxes also create a way of sheltering individual income given the low tax rates on dividends and capital gains. In addition to higher tax rates, a number of revisions could be made to increase corporate tax revenue, including eliminating preferences in the corporate tax that mismeasure income or lead to economic inefficiencies, revising the tax treatment of foreign source income, and changing shareholder level taxes.