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Proposal: Reform Corporate Income Tax - v2.0 10/17/16 update

Do you want to live and work in a thriving American economy? Then explore how we can keep American companies here, attract investment into the US, and boost productivity, wages, and living standards for us all--the American workers.

The Issue

Problem Defined

The US corporate income tax is broken. Our tax rate is the highest in the developed world, yet we collect less corporate tax revenue as a share of gross domestic product than many of our trading partners. The tax discourages firms from investing in the US. It also enables multinationals to avoid tax by shifting profits to low-tax countries.

Background
Expand all bullets
1.
1. The US has the highest statutory corporate tax rates among developed countries

2.
2. The current US tax system encourages companies to invest, book profits and move charters abroad

The US can impose corporate tax only on income companies earn within our borders and income of companies legally based in the US. US tax law defines a company's residence as the place where its charter was issued. But that legal home may not be where many of the company's investments, employees, customers and shareholders are located. 

The current tax system:

  • encourages companies to switch from US to foreign charters through "inversions"
  • spurs buyouts of smaller US firms by foreign-based competitors
  • diverts investment opportunities away from US-chartered companies

And there’s more: Intangible assets such as patents, and brand name, and reputation contribute to profits throughout the world no matter where they are located. Multinational companies can avoid tax by shifting their intangible assets and their profits to low-tax countries.

3.
3. The double taxation built into the current corporate income tax is a vestige of the past

Double Taxation: Congress adopted the corporate income tax in 1909. Publicly-traded companies and other C corporations1 pay corporate income tax on their profits, which include dividends paid to shareholders. Their shareholders also pay tax (at preferential rates) on dividends1 and capital gains1 from these companies.

Pass-through businesses:1 Sole proprietorships and partnerships taxed only at the owner/investor level under the individual income tax and do not pay corporate income tax.

New company structures: Congress and the IRS have started moving away from double taxation. Over the past 55 years, they have extended pass-through treatment to more businesses that have the same limited-liability benefits as corporations. In 1958, Congress allowed small corporations to receive pass-through treatment as S corporations.1 In the 1990s, the IRS allowed limited liability companies (LLCs) and limited liability partnerships (LLPs) to be taxed as partnerships and Treasury enacted “check the box” rules that made it easy for firms that are not publicly traded to choose to be taxed as pass-through businesses.

Most publicly-traded companies, however, are still C corporations that are subject to double taxation.

1 See bullet #6 below for definitions of terms

4.
4. The current tax system treats companies unequally based on financing and organizational form

Corporate equity-financed investments are taxed at a higher rate than debt-financed and pass-through companies. Corporations financed by debt pay lower effective tax rates than those financed by equity because they can deduct interest expenses. This unequal tax treatment encourages corporations to raise their debt levels, increasing their financial vulnerability.

Below are two companies. They are both located in the same city in the US, and they both have the same operating profit, but have different financing.

Note: The example assumes that the investment receives no corporate tax preferences and that all after-tax profits are paid out as dividends.

5.
5. Other reforms now being considered don't adequately address the current system's harmful effects

Congress is entertaining several tax reform proposals. These proposals would expand some perverse incentives while trying to minimize others.

6.
6. Key Terms & Definitions

Go deeper
1.
Major Surgery Needed: A Call for Structural Reform of the US Corporate Income Tax

Eric Toder and Alan D. Viard - A Joint Publication of the American Enterprise Institute and the Tax Policy Center (2016)

https://www.aei.org/wp-content/uploads/2016/06/A-proposal-to-reform-the-taxation-of-corporate-income.pdf

Pages 4-11 describe and critique the current corporate income tax system and the proposals under consideration in Congress. Pages 12-45 describe the details of the authors' proposal. Pages 46-63 present the expected benefits of the proposed changes to the corporate income tax.

2.
A Call for Structural Reform of the US Corporate Income Tax

Conference participants: Eric Toder, Alan D. Viard, David Wessel, Martin A. Sullivan, Pamela Olson - Conference co-sponsored by Urban-Brookings Tax Policy Center and American Enterprise Institute (2014)

https://www.youtube.com/watch?v=Bugm6cpuirI

Toder and Viard present their proposal (and an alternative proposal on international coordination) at a conference co-sponsored by the Tax Policy Center and AEI. Pamela Olson of PricewaterhouseCoopers and Martin A. Sullivan of Tax Analysts comment on the proposal. David Wessel of the Brookings Institution moderates.

3.
Scrap Corporate Income Tax, And Make Shareholders Pay

Eric Toder and Alan D. Viard - Market Watch (2014)

http://www.marketwatch.com/story/tweaking-corporate-tax-system-doesnt-go-far-enough-2014-08-05

The authors describe their proposal and why we need it in an op-ed in Market Watch. Upon its release in April 2014, the proposal received widespread media attention. It drew another round of publicity that summer with a wave of corporate inversions sending US companies abroad, prompting the authors to write this article.

4.
A Combined Mark-to-Market and Pass-Through Corporate-Shareholder Integration Proposal

Joseph Dodge - NYU Tax Law Review (1995)

Dodge Mark-to-Market and Pass-Through.pdf

In this 1995 article, Professor Joseph Dodge, a leading tax expert, advanced a proposal to replace the corporate income tax with shareholder taxation. Although some of the details are different, his proposal followed the same broad approach as this proposal.

5.
Corporate Income Tax Rate

Organization for Economic Co-Operation and Development - (2015)

http://stats.oecd.org//Index.aspx?QueryId=58204

The OECD tax database provides information on corporate income taxes that are levied in the 34 OECD member countries. The table shows 'basic' (non-targeted) central, sub-central and combined (statutory) corporate income tax rates. Where a progressive (opposed to flat) rate structure applies, the top marginal rate is shown.

Expert Authors

URBAN INSTITUTE, founded in 1968 to understand the problems facing America’s cities and assess the programs of the War on Poverty, brings decades of objective analysis and expertise to policy debates — to open minds, shape decisions, and offer solutions through economic and social policy research.  It is regarded as one of the preeminent think tanks in the US.  Along with BROOKINGS INSTITUTE, another preeminent think tank, the Urban Institute sponsors the URBAN-BROOKINGS TAX POLICY CENTER.

AMERICAN ENTERPRISE INSTITUTE is committed to expanding liberty, increasing individual opportunity and strengthening free enterprise through research and education on government, politics, economics and social welfare.  It is regarded as one of the preeminent think tanks in the US.

As these organizations do not take institutional positions, this proposal reflects the views of the individual authors.

Funding for the research of Toder and Viard has been provided by The Peter G. Peterson Foundation, which focuses on America's fiscal challenges, and The Laura and John Arnold Foundation, which focuses on criminal justice, education, and public accountability.

Eric Toder
Institute Fellow - Urban Institute
Eric Toder is an Institute Fellow at the Urban Institute and co-director of the Urban-Brookings Tax Policy Center. Dr. Toder’s recent work includes papers on ways of limiting tax expenditures, using a carbon tax to pay for corporate rate cuts, cutting tax preferences to pay for lower tax rates, tax expenditures and the size of government, tax policy and international competitiveness, value added taxes, the home mortgage interest deduction, trends in tax expenditures, the distributional effects of tax expenditures, corporate tax reform, charitable tax incentives, taxation of saving, the tax gap, effects on retirement income of changes in pension coverage and stock prices, employing older workers, and energy tax incentives. 

Dr. Toder previously held a number of positions in tax policy offices in the U.S. government and overseas, including service as Deputy Assistant Secretary for Tax Analysis at the U.S. Treasury Department, Director of Research at the Internal Revenue Service, Deputy Assistant Director for Tax Analysis at the Congressional Budget Office, and consultant to the New Zealand Treasury. 

He received his Ph.D. in economics from the University of Rochester in 1971.
Alan Viard
Resident Scholar - American Enterprise Institute

Alan D. Viard is a resident scholar at the American Enterprise Institute (AEI), where he studies federal tax and budget policy.

Prior to joining AEI, Viard was a senior economist at the Federal Reserve Bank of Dallas and an assistant professor of economics at Ohio State University. He served as a visiting scholar at the US Department of the Treasury’s Office of Tax Analysis, a senior economist at the White House’s Council of Economic Advisers, and a staff economist at the Joint Committee on Taxation of the US Congress. While at AEI, Viard taught public finance at Georgetown University’s Public Policy Institute. 

Earlier in his career, he was a visiting scholar in Japan at Osaka University’s Institute of Social and Economic Research.

A prolific writer, Viard is a frequent contributor to AEI’s “On the Margin” column in Tax Notes and was nominated for Tax Notes’ 2009 Tax Person of the Year. He has testified before Congress, and his work has been featured in a wide range of publications, including Room for Debate in The New York Times, TheAtlantic.com, Bloomberg, NPR’s Planet Money, and The Hill. Viard is the coauthor of “Progressive Consumption Taxation: The X Tax Revisited” (2012) and “The Real Tax Burden: Beyond Dollars and Cents” (2011), and the editor of “Tax Policy Lessons from the 2000s” (2009).

A native of Kansas, Viard received his BA in economics from Yale and his PhD in economics from Harvard. He completed the first year of the JD program at the University of Chicago Law School, where he qualified for law review and was awarded the Joseph Henry Beale prize for legal research and writing.

The Solution

Proposed Recommendations
Expand all bullets
1.
1. Reduce the corporate income tax rate to 15%

This reduction would occur over a ten-year period (see recommendation #7 below).

2.
2. Tax shareholders at ordinary income tax rates with credit for corporate income taxes paid

American shareholders of publicly-traded companies would be taxed on their dividends and capital gains at full ordinary income tax rates, up to 39.6%, rather than today's 20% top capital gains tax rate. This tax increase would be introduced over a ten-year period. The 3.8% net-investment-income tax would also continue to apply to dividends and capital gains.

Capital gains taxes would be imposed on an accrual basis:

  • Shareholders would pay tax on their accrued capital gains as the stock rose in value, even if they had not sold their shares.
  • Shareholders would deduct accrued capital losses as the stock fell in value, even if they had not sold their shares. Capital losses could be deducted from current income without limit, carried back to be deducted from the previous two years' income (triggering refunds of taxes paid on past income), or carried forward to be deducted from the next 20 years' income. 

To prevent double taxation, American shareholders would receive a tax credit for their share of the US income taxes paid by the US firms whose stock they own. However, foreign shareholders, nonprofit organizations, and tax-preferred retirement plans would not receive the credit because they generally don't pay a second level of tax on their dividends.

Gains and losses on non-publicly-traded businesses, land, and other assets without established market prices on organized exchanges would continue to be taxed only when the assets are sold and would still receive the preferential capital gains tax rate. However, previously untaxed gains on these assets would be taxable (at the preferential rates) when the owner dies.

3.
3. Smooth accrued gains and losses to reduce tax volatility

Because the stock market is volatile, shareholders might have large accrued gains in some years and large accrued losses in other years. To make tax payments less volatile and limit the need for shareholders to sell shares to pay tax in years with big gains, the gains and losses would be smoothed. In each year, 20% of the gain or loss would be taxed or deducted and the other 80% would be placed in a pool of unrecognized gains and losses. In each year, 20% of the balance in the pool, in addition to 20% of the new gains and losses, would be taxed or deducted.

So, if a shareholder had a $100 gain one year, $20 would be taxed in that year and $80 would be placed in the pool. In the next year, $16 of the $80 would be taxed (because 20% of the pool balance would be taxed). In the following year, $12.80 of the remaining $64 would be taxed, and so on. Gains and losses would therefore be smoothed over many years. It would not be necessary, however, to keep track of all the past years, as a single number (the pool balance) would be the only information needed.

The smoothing would apply to dividends and capital gains and losses on corporate stock, whether or not the stock was sold. The shareholder credit for corporate tax paid at the company level, which was discussed in Recommendation 2, would also be smoothed. 

4.
4. Provide transition relief for privately held companies that go public

Capital gains accruing after a privately held company went public would be taxed as they accrue under the proposal’s general rules (including the credit for corporate taxes paid at the company level and the application of geometric smoothing). However, special rules would apply to the gains that had accrued before the company went public, but that had not yet been taxed because the owners had not sold their ownership stakes. Three-quarters of those previously accrued gains would be exempt from tax and the remaining one-quarter would be included in the owners’ taxable income over a ten-year period. These rules would ensure that companies did not face an undue tax penalty for going public. For further details about this provision, please see pages 23-25 of “A Proposal to Reform the Taxation of Corporate Income” (see full reference below).

5.
5. Exempt small shareholders from taxes on dividends and capital gains

The first $500 ($1,000 for couples) of dividends and accrued capital gains would be exempt from tax each year. As a result, small shareholders would not have to deal with accrual taxation, the shareholder credit, and the geometric smoothing system. This exemption would remove a large number of shareholders from the capital gains tax system with relatively little revenue loss.

6.
6. Impose a 15% tax on the interest income of non-profit organizations and retirement plans

Today, non-profit organizations and retirement plans do not pay an explicit tax on their investment income. However, their income from corporate equity bears a 35% tax burden – the corporate income tax collected from the companies whose stock they’re holding. The proposal would reduce that tax burden to 15%. To offset that gain and to make the tax burden more equal across debt and equity holdings, a 15% tax would be imposed on the interest income of non-profit organizations and retirement plans.

7.
7. Establish transition arrangements

Once the reform took effect, shareholders of publicly-traded companies would pay tax on accrued annual gains and deduct accrued annual losses.

Over a ten-year period, the individual income tax rate on dividends and newly-accrued capital gains would be increased to the ordinary individual income tax rate. Over the same period, the corporate income tax rate would be reduced to 15%.

The chart below shows the corporate income tax rate and the top individual income tax rate on dividends and newly-accrued capital gains. The 3.8% net-investment-income tax (not shown below) would also still apply to dividends and capital gains. The chart assumes that the reform is enacted in 2016 and starts to take effect in 2018.

The following rules would apply to capital gains that had been accrued before January 1, 2018, but that had not been taxed (because the shares had not been sold). The first $10,000 of these previously accrued gains would not be taxed. Three-quarters of the gains above that threshold would also not be taxed. The remainder – one-quarter of the gains above the threshold amount – would be included in taxable income, spread over the ten-year period from 2018 through 2027. This treatment of previously accrued gains would, on average, roughly approximate the treatment they would have received under previous law, under which they would have been taxed at preferential rates if and when they were realized through the sale of the shares.

Other transition rules would also apply to a variety of specialized circumstances.

For further details about the transition rules, please see pages 38-42 of “A Proposal to Reform the Taxation of Corporate Income.”  

Expected Results
Expand all bullets
1.
1. Companies would have little tax incentive to move their charters abroad

The US tax system would no longer provide significant incentives for companies to move their corporate charters abroad. The shareholder tax would not depend on where the corporation was chartered and the corporate tax would be much lower. The tax incentive for inversions would be greatly diminished. US companies would face little or no tax on overseas income, after applying credit for foreign income against their 15% US tax.

2.
2. Investment in the United States would increase

With our current tax system, both US and foreign companies are taxed on profits earned in the United States, with less tax, or no tax, on profits earned abroad. The current corporate tax discourages both types of companies from investing in the United States. Reducing the corporate income tax rate to 15% would greatly reduce that effect. Capital would flow into the US, boosting US job creation, productivity, wages and standard of living. By keeping a 15% corporate income tax, we'd ensure that foreign shareholders pay some U.S. tax when they invest here, but the rate would be low enough that it wouldn't drive their money out of our economy. The size of the gain would depend on several factors, including how other countries reacted to the US reform. 

3.
3. Companies would book additional profits in the United States

Because the United States would have a much lower corporate tax rate, both foreign and US companies would book additional profits in the United States rather than abroad. The tax on those additional profits would offset part of the revenue loss from the corporate tax rate cut. State governments with corporate income taxes would also receive additional revenue from taxing those increased profits.

4.
4. Tax treatment would be more equal for companies with different financing and organizational form

Publicly-traded equity-financed and debt-financed companies would receive equal tax treatment. Companies would be free to choose the best capital structure for their businesses without worrying about tax consequences.

Compared to today's system, the tax treatment of publicly-traded and non-publicly-traded businesses would be more similar than under current law (for American owners.) Neither type of business would be subject to double taxation:

  • Owners of publicly-traded businesses would pay tax on their dividends and accrued capital gains. The corporate income tax would be offset by a tax credit for American shareholders.
  • Owners of non-publicly-traded businesses would continue to pay tax on their share of the business' income.

The charts below show the taxes that would be paid by the two companies (described in background point 4) under the reform plan.

5.
5. The proposal would not open up new opportunities for tax avoidance

Although the corporate income tax rate would be much lower than the top individual tax rate (15% compared with 43.4%), corporate profits could not be sheltered from full-rate tax by being reinvested and shareholders delaying selling their stock. Reinvested profits would show up in accrued capital gains, which would be taxed each year at the ordinary income tax rate, even if shareholders held onto their stocks for an extended period.

6.
6. The tax system would become slightly more progressive

The Urban-Brookings Tax Policy Center estimates that the top 1% of households would pay slightly more taxes than under current law and that all other income groups would pay slightly less. This occurs because the higher shareholder taxes fall almost entirely on upper income individuals with investment income, while a portion of the corporate tax cut will raise workers’ wages by increasing investment in the US, thereby raising capital per worker and labor productivity.

Budget
Budget Impact

The Urban-Brookings Tax Policy Center estimates the plan would be approximately revenue neutral in the long run; it may even raise revenue if the taxes collected on the additional profits that are likely to be booked into the US in response to a reduced corporate tax rate are counted. 

Net Present Value


The Conversation

a month ago
Could we consider other problems like economic stability when redesigning the corporate tax structure? In business, in deciding salaries, there is a term: "you get what you incent". Can we consider other problems related to the national economy and design in the ability to incent what we want to have happen. Here are some examples:

As a nation, when people get laid off, it costs us money in terms of social programs to support them and hopefully getting them back into work force. Could we provide incentives that reward companies for not laying off people. For example, that 15% minimum could get a 10% discount (to 13.5%) for business that have not laid anyone off in the last 10 (or so) years.

As a nation, we are have a problem with the growth in the cost of healthcare relative to the growth in people's salaries, and this is especially hard at the low income level. As a nation, we end up footing the bill for these people through social programs and through higher costs because of providers distribution uncollected depts. onto what they bill everyone else. What if we created a Healthcare Adjustment Tax for Corporations that was directly related to the cost of healthcare v. the average wage. So, if the average cost of healthcare was more than 10% the average wage (for example), then the Healthcare Adjustment Tax would kick in. But if the average cost of healthcare was less than 10% of the average wage (again 10% is an example that might not be the right number), then there would not be a Healthcare Adjustment Tax. And the Healthcare Adjustment tax could be a 10% (for example) increase to 16.5%. The expected result of this would be more pressure to increase wages at the lower end, as well as more pressure and hopefully innovation, in controlling the growth of healthcare costs.

I'm not saying these are the perfect proposals, and the experts may have more info and better ideas on this, but can we build it in.

Right now I would say that our tax system is incenting corporations to leave the country and to recognize as much as they can out of the country. But as we correct that incentive, should we also consider high level incentives to motivate more economic stability. The choice of a 15% tax rate, seems completely arbitrary but if we put some thought into how the tax rate is decided and used it to incent outcomes that would benefit us all, wouldn't that be better?



Alan Viard
Resident Scholar
a month ago
Many thanks for your suggestion. Your proposal, which is likely to have a number of advantages and disadvantages, lies outside the scope of our proposal. If it is judged to be desirable, it could be added to the corporate income tax after our proposal has been enacted, just as it could be added to the current corporate income tax.
a month ago
In the Problem it says: ...yet we collect less corporate tax revenue as a share of gross domestic product than many of our trading partners.

This seems like a very powerful statement, but is it true? I have not heard this before, and I do not see any supporting detail. Also, I do not see the supporting graph of this like the on that shows the corporate tax rate. But I think this would be a compelling reason for more people engaged.
Alan Viard
Resident Scholar
a month ago
Many thanks for your comment. The relatively low corporate tax collection in the United States is longstanding and well known. In 2014, the United States collected 2.2 percent of GDP in corporate taxes, significantly below the 2.8 percent average for OECD countries - the data are in the OECD data file in the "Go Deeper" section (go to "Comparative Tables - OECD Countries" and choose "1200 Taxes on income, profits, and capital gains of corporates" in the Tax Revenue tab at the top of the page). Part of the reason that corporate tax revenue is so low in the United States (despite the high statutory tax rate) is that a large volume of U.S. business activity is done by non-corporate businesses.
a month ago
Why did you choose to lower the corporate income tax rate to 15% instead of 20% like the UK. Should we be lower than our trading partners? Should there be some system of adjusting this rate based on moves that other countries make? If the argument is that we are losing tax revenue because it's cheaper to recognize the profit in another country then wouldn't then might the effected countries react if we lowered our rate and the revenue shifted out of there country? Also it seems like the US as a safe place to invest could charge some premium. If the tax rate were the same would you choose to invest in the US or Venezuela?

One thing that I see is that governments tend to compromise on a number without thoughtful calculations on why it should be that number and not some other number, and they don't build in the mechanisms for the number to change when the reasons change.
Alan Viard
Resident Scholar
a month ago
Many thanks for your comment. Although there is no way to determine the precisely optimal tax rate, we believe that 15 percent strikes a reasonable balance between attracting investment to the United States while collecting some revenue from foreign investors. We would like to have a lower rate than other countries to affirmatively draw investment to the United States. The 15 percent rate also allows the plan to achieve revenue and distributional neutrality. The mechanism for changing the rate is set forth in the Constitution - Congress and the president can change it at any time through the legislative process.
George Schramm
Outreach Marketing
3 months ago
I would like to know more about Reccomendation 6, the tax on non-profits. Would this change from 35% to 15% across the board actually offer that much more?
Alan Viard
Resident Scholar
a month ago
Many thanks for your comment. The 15 percent tax would offer the advantage of neutrality between debt and equity holdings by non-profits. We expect the total tax burden on nonprofits to be roughly unchanged from current law, under which they bear a 35 percent (indirect) tax on equity holdings and no tax on debt holdings.
Claire Kopsky
College Student
3 months ago
Will tax treatment actually be even for companies with different financing and organizational form?
Alan Viard
Resident Scholar
a month ago
Many thanks for your question. As shown in Expected Result 4, tax treatment will be even between debt-financed and equity-financed investment by publicly traded businesses, but will not be completely even between publicly traded businesses and non-publicly-traded businesses. Complete parity cannot be achieved because it is impractical to tax accrued gains for owners of non-publicly-traded businesses, given that there is no accurate way to determine the value of their ownership interests each year.
a year ago
In discussions over scaling back the corporate tax rate, exacerbating inequality remains my guiding concern; in an era of staggering inequality in income as well as inter-generational wealth across demographics, simply emphasizing 'inefficiency' to the point of fetish is all the more misguided in my humble opinion. After all, according to the Congressional Budget Office, about 80% of corporate income is held by households in the top fifth of the income scale, & about 50% is held by the top-1% [1]. Unless we could replace it with higher taxes on those same households, I'm concerned that scrapping or just lowering the corporate tax rate would be conducive to increasing after-tax income inequality. It doesn't help that beyond the proverbial special interest loophole, folks aggressively look for ways to shelter their income (more precisely, they hire people to do that for them.) As it is, “pass-through” businesses like partnerships & S-corporations – which are not subject to an entity-level corporate tax – now generate roughly 60% of US business income & account for much of the post-1980 rise in the top-1% income share [2][3]. Relative to traditional business income, pass-through business income is substantially more concentrated among high-earners [3]. There is a line of economic advice I keep in mind – "Don't tax companies in an effort to tax rich people" – but the rise of pass-through businesses raises doubts for me whether repealing a corporate tax would essentially turn a C-corp into a tax haven in itself compared to pass-through companies. [See note 4.] That poses the question whether Toder & Viard also seek to reincentivize businesses to incorporate specifically as C-corps in the United States rather than simply pursuing business through other forms (ie, S-corps). Furthermore, I wonder whether corporations – with decisions subject to agreggate will of corporate governance – are subject to the same kind of incentives to shelter money compared to individual investors. It may very well be that lowering the corporate tax rate in itself doesn't immediately open the floodgates of investment towards expanded production. After all, it is widely reported that America's largest companies collectively continue to hoard over $1 trillion in cash despite a recovering US economy.

More to the specifics of Toder & Viard's proposal:

+ The authors claim that their "plan would also address cross-border transactions, effects on state & local governments, & other issues." > How so?

+ "Shareholders would pay tax on their accrued capital gains as the stock rose in value, even if they had not sold their shares. Shareholders would deduct accrued capital losses as the stock fell in value, even if they had not sold their shares." > Is the deduction necessarily the inverse of a capital gains tax? Does this deduction actually serve to encourage continued investment by safeguarding investors from volatility or is it just socializing losses for investments that would happen regardless? Also, it is just me or is it unclear whether only the year-to-year differential is deductible vs the full value of the stock is deductible?

+ "American shareholders of publicly-traded companies would be taxed on their dividends & capital gains at full ordinary income tax rates, up to 39.6%, rather than today's 20% top capital gains tax rate. The 3.8% net-investment-income tax would also continue to apply to dividends & capital gains." > Well done! I think this starts to speak to my concern about income inequality.

+ Toder & Viard do address tax avoidance: "Although there would no longer be a corporate income tax, corporate profits could not be sheltered from tax by being reinvested & shareholders delaying selling their stock. Reinvested profits would show up in accrued capital gains, which would be taxed each year, even if shareholders held onto their stocks for an extended period."

I also found compelling the line of reasoning that "corporations financed by debt pay lower effective tax rates than those financed by equity because they can deduct interest expenses. This unequal tax treatment penalizes equity-financed corporations & encourages companies to raise their debt levels, increasing their financial vulnerability." Addressing this reality of traditional corporate finance seems like a step towards a more resilient financial system in general.

All in all, it is clear that the US has higher *statutory* corporate tax rates than other developed countries but kudos to Toder & Viard for suggesting alternatives as well as incremental intermediate policy changes towards phasing out the corporate tax rate rather than simply calling for an outright repeal or reduction in that rate.

[1] https://www.cbo.gov/publication/44604
[2] http://taxfoundation.org/blog/us-corporate-tax-revenue-low-because-high-taxes-have-shrunk-corporate-sector
[3] http://www.nber.org/papers/w21651
[4] It would be a mistake to completely conflate pass-through businesses with small businesses. Pass-through businesses are generally smaller than C-Corps, but pass-through businesses are not always small businesses. While most pass-through employment is either self-employment or at small firms with 1-100 employees, 27.5% of pass-through employment was at firms with more than 100 employees & 15.9% at large firms with 500+ employees. Source: http://taxfoundation.org/article/overview-pass-through-businesses-united-states
Alan Viard
Resident Scholar
a year ago
Many thanks for your comment.

The proposal would reduce the current tax system's disincentives to operating as a C corporation rather than as a pass-through. In practice, there would still be some tax disincentive to being a C corporation because the taxation of accrued gains would likely be somewhat less favorable than the treatment of flow-through businesses.

Reducing the corporate tax rate from 35 percent to zero would have to make the United States a vastly more attractive investment location for both domestic and foreign companies.

The proposal's treatment of cross-border transactions, state and local governments, and other issues is discussed in our April 2014 Major Surgery report.

If accrued gains are taxed, accrued losses must be deducted. There would be no conceivable justification for the adoption of a "Heads the Government Wins, Tails the Taxpayer Loses" tax policy. Given the market's volatility, such a policy would place a heavy effective tax on stock investments and artificially punish risk-taking. If a share rose $20 one year and fell $20 the next year, returning to its original value, how could anyone justify taxing the $20 gain and ignoring the $20 loss? Neutral tax policy absolutely requires symmetrical treatment of gains and losses and we view that as a non-negotiable feature of the proposal.
a year ago
I thoroughly enjoyed the discussion on scrapping the corporate income tax and the suggested tax increase of shareholders. It seemed very pragmatic in addressing the dilemma of double taxation that most corporations face.

The difficulty that struck me really rooted in the lack of tax payments from foreigners. This idea that you can tax shareholders, whether that be everyday citizens that own shares in a corporation, or executives with extremely profitable stock options, this idea that you can tax Americans so exponentially really strikes me. Let's say you kept the shareholder's tax rates relatively normal, as explained, the contribution to the economy would be minimal if there is one at all in bringing money back into the U.S. economy to help our deficit/budget problem.

I think it's very interesting to see at what the optimal level of taxing our country's millionaires are. All taxes combined, what is the optimal point, according to the Laffer curve, that you could tax (particularly our country's 1%) before they start to work less, or in your case move to a different country. I think its underestimated how much the wealthy value their income/money. Take a look at France. With such high tax rates, they have one of the lowest numbers of millionaires of any developed country, having surpassed the optimal taxation point on the Laffer curve.

We can tax shareholders, this would probably push a whole lot more pressure on executives who own millions worth of stocks annually. I think whats underestimated is how volatile their indifference is to moving to another country. With how the tax will affect our economy, I feel as if it would cost the middle class more than anything.

Even if this reform reverses this inversion and brings companies back to the U.S., is it still practical if it doesn't close the gap in the loss of government revenue to our country AND it forces wealthy individuals out of our country-losing their tax revenue in the process?
Alan Viard
Resident Scholar
a year ago
Many thanks for your comment. We are considering modifying the proposal to maintain a low-rate corporate income tax. That would be the most practical way to collect some tax from foreigners investing in the United States and it would also help address the revenue gap.

It is possible that a few wealthy shareholders might give up their U.S. citizenship, but it's hard to imagine that very many would take such a drastic step. Despite all the media coverage, the number of citizenship renunciations is still quite low. Individual residence is vastly less mobile than corporate charters or the location of corporate profits. Indeed, if individual residence ever becomes too mobile to serve as a tax base, there won't be anything left to tax except land.
a year ago
The Estonian already solved this problem.

Check out how their tax system works:
https://en.wikipedia.org/wiki/Taxation_in_Estonia#Corporations.2Flegal_persons_income_tax.

It treats domestics and foreigners in the very same way and it is very investment friendly system.
a year ago
Thank you for your innovative contribution to the corporate tax reform debate. I am intrigued by the plan's ability to reduce corporate inversions and increase foreign investment in domestic companies. From a industrial organization perspective, it would also be very interesting to see if this policy would have any impact on mergers and acquisitions (and thus the growing oligopolistic nature of U.S. markets). Shareholders, now bearing corporate tax, perhaps may seek to play a larger role in corporate governance, potentially seeking only to be taxed on company activities they have ties or interest in, perhaps reducing the consolidation of firms, which I think would help both consumers and the long-term prospects of the American economy.

However, I think there need to be some major changes made to the proposal before enacted including:

- Foreigner taxation: As many have mentioned below, the plan's current lacking a tax on foreign investors could create a large tax loophole (encouraging domestic shareholders to create foreign shell companies to avoid taxes). This also is not very just, as these foreign investors would be free-riding on the services provided to the corporation by the government. This could be changed by placing some form of tax on foreign investors to make the plan revenue neutral.

- Effect on revenues for state and local governments: As many have mentioned below, the federal government see a gap in revenue. In addition, according to Governing magazine, state governments collected $50 billion in corporate taxes in 2012. Phase-out of federal corporate taxes would likely lead state governments to do the same, leading a large revenue gap which may lead to cuts in state spending (ex. public education, assistance for local governments) and increases in property taxes. My home state of Wisconsin, especially, has been hit hard with spending cuts and I worry about the future of our state's competitiveness with continued cuts.

- Effect on deductions: While I think subsidies should be theoretically used as minimally as possible, many corporate tax deductions and credits help create equitable outcomes, especially social mobility. Claire below mentioned many of these (employee benefits, charitable contributions). Corporate tax breaks that are especially important to me are the New Markets Tax Credit and the Low Income Housing Tax Credit, which have both funnelled billions of dollars in private sector investment into historically-underinvested neighborhoods across the United States. As someone who cares deeply about racial equity, I worry how this policy would impact the ability of these communities to access housing and small business capital that has been more freely possible because of these credits. Some might argue that corporations might absorb some of the behavioral changes that were previously incentivized by deductions and credits (ex. R&D); however, this is by no means guaranteed.
Alan Viard
Resident Scholar
a year ago
Many thanks for your comment. We are considering modifying the proposal to keep a low-rate corporate income tax. That would be the most practical way to continue collecting some tax from foreigners investing in the United States. It would also make it feasible for states to continue using corporate income taxes.

The statement that "many" business tax breaks create equitable outcomes may be overstated, although a few of them may have that effect.

There is little room for concern on employee benefits and corporate charity. There are almost no business tax breaks for employee benefits; nearly all of them receive the same business tax treatment as wages. Instead, the tax preference for employee benefits is the exclusion of the benefits from the worker's taxable income; that preference would remain unchanged under the proposal. Today, corporate charitable contributions receive two tax breaks (unlike individual contributions, which receive only one). First, the corporation deducts the contribution. Then, the shareholders' taxes are reduced because the contribution lowers the shareholder's dividends or capital gains. Although our proposal would eliminate the first tax break, it would enlarge the second tax break by raising the dividend and capital gains tax rates.

The Low Income Housing Tax Credit is a potential concern, as we noted in our 2014 Major Surgery report. The New Markets Tax Credit may fall into the same category. The simplest solution may be to convert both credits into direct grants and place them on the spending side of the budget. In one key respect, the LIHTC and NMTC already resemble grant programs rather than tax breaks, as they are subject to nationwide dollar limitations and taxpayers wishing to claim them must compete for allocations from government agencies.

In any event, this issue would also go away if the proposal was modified to retain a low-rate corporate income tax, as the credits could then continue to be claimed against the corporate tax.
a year ago
I very much enjoyed this proposal. While at first it sounds almost radical, it really just seems logical at this point. While corporate decisions to invert are inherently harmful to a country with a deficit problem, I have had trouble getting upset at those companies who chose to do so. It just seems as though it was a fiscally smart decision for those companies who were simply try to maximize profits and keep shareholders happy. This is why I found the proposal so great. It curtails incentives for companies to try to harmfully reduce their tax burden, such as though inverting, while helping to eliminate the part of the tax code with the most economic distortion.

Personally, I find the initial revenue loss of $170 billion per year to be worth it. That number, while obviously large, seems like it would be worth it especially if this plan prevented more inversions, which would have reduced revenue anyways. With this is mind, I would be interested in the ideas for spending cuts to offset this loss. The proposal did note some potential tax increases, and it would be interesting to hear about them in more depth at some point.

The issue of revenue loss certainly is exacerbated by the taxation of foreigners issue. It does seem to me to be inherently unfair that they would avoid taxes while Americans could not. That is why I really found the idea of a low corporate tax compelling. That is, that shareholders could claim their share of the corporate tax payment as a tax credit so that only foreign investors are paying the burden for the corporate tax. This seemed really smart, and like it would go a long way to solving some of the plans issues.

Alan Viard
Resident Scholar
a year ago
Many thanks for your comment.

Thanks for your discussion of the potential modification of keeping a low-rate corporate income tax with an offsetting credit for American shareholders. We continue to carefully consider that potential change to the proposal.
a year ago
This proposal appears to be rather comprehensive; however there appears to be two potential issues. The elimination of the corporate income tax must mean that foreign investors would no longer have to pay any taxes on their investments. While this would naturally incentivize foreign investment, I believe that this would be taking things too far. A relatively low tax rate would stimulate foreign investment while still generating revenue.

The other issue lies in the loss of revenue when switching from the corporate income tax to this proposal. This is not necessarily an enormous issue, and the proposal shouldn’t necessarily be changed to close this gap, but it is still something that should be more seriously addressed.
Alan Viard
Resident Scholar
a year ago
Many thanks for your comment. We are considering modifying the proposal to keep a low-rate corporate income tax. That would address the revenue shortfall and would also be the most practical way to continue collecting some tax from foreigners investing in the United States.
a year ago
I am strongly in favor of the purest version of this plan, however I do believe that in order to move in the right direction it is necessary to move incrementally and be pragmatic. One thought I have about the plan is the effect this transition will have on companies that are already accustom to operating overseas or that already have a charter in another country with a 0% corporate tax rate for example. A middle ground 'competitive' rate as some suggest, even of 15%, may not be sufficient in drawing certain strata of business and investment back into the domestic economy. Would there be room in the proposal for a certain incentive for drawing corporations back into the US, as is the original purpose, if the plan does eventually come to fruition in the middle ground? Such an incentive may be to increase the tax liability on dividends and capital gains of corporations that are registered and/or book profits abroad. This however complicates things by straying from the normal rate on financial assets and may likely prompt pitfalls similar to tariffs.
Alan Viard
Resident Scholar
a year ago
Many thanks for your comment. We are not inclined to adopt any special measures (either carrots or sticks) targeted specifically at companies that previously operated in the United States. Instead, we prefer to rely on the general incentive effects of the zero corporate tax rate. Even if companies that have moved abroad do not return, the zero corporate tax rate will deter other companies from leaving the United States and will encourage other companies throughout the world to consider coming to the United States.
a year ago
Although I am in favor of this plan as it would reduce the amount of corporate inversions, foreigners not paying taxes is an issue for me. While it would increase the amount of foreign investment in the United States, I am concerned that the amount of investment would not outweigh the amount of revenue lost from not taxing foreign investors. This potential loss of revenue is also a concern for me because of the increasing national debt and the $170 billion hole this plan would leave when enacted.
I think the zero tax on foreign investors should be replaced with at some tax, even if it is lower than what a US shareholder would pay so that foreign investment is not completely discouraged.
Alan Viard
Resident Scholar
a year ago
Many thanks for your comment. We are considering modifying the proposal to keep a low-rate corporate income tax. That would address the revenue shortfall and would be the most practical way to continue collecting some tax from foreigners investing in the United States.
a year ago
Overall, I am definitely in favor of this proposal as it would mitigate the problem of corporate inversions while resulting in a more balanced tax treatment for different types of companies. Due to incentivizing foreign investment into the US, this proposal would definitely result in net gains- and, assuming the best possible reaction of other countries to this reform, would hopefully thereby lead to an inflow of capital and increase our number of jobs and standard of living. As other commenters have pointed out, I would be interested in knowing the effects of this reform on the stock market due to individual shareholders invariably filling the void resulting from the elimination of corporate taxes. Thank you.
Alan Viard
Resident Scholar
a year ago
Many thanks for your comment. We do expect an inflow of capital and increased standard of living for workers.

The stock market should not be profoundly affected. Due to the changes in tax treatment, it is likely that somewhat fewer Americans, and somewhat more foreigners, will own stock in U.S. companies. The impact on stock prices is unclear, due to conflicting effects from the corporate tax repeal and the shareholder tax increases. As explained elsewhere, we do not expect any noticeable change in stock market volatility.
a year ago
A component of this plan will eliminate taxation on foreign investors. What are your projections in terms of foreign direct investment into the US? It seems like this plan will encourage increased investment into American based companies, especially from foreign sources. With this increased interest, do you foresee a large growth in US based industry and capital? If so, do you think that this growth would counteract some of the revenue loss that occurs under this plan? Thank you
Alan Viard
Resident Scholar
a year ago
Many thanks for your comment. We do expect a large inflow of investment into the United States, which would be a great benefit to American workers.

It is not clear, however, that the investment inflow would result in a significant revenue feedback. To be sure, additional individual income taxes and payroll taxes would be collected on the higher wages produced by the investment inflow. However, the inflow would also drive down before-tax rates of return on capital, which would reduce individual income tax collections on capital income. And, there would be no corporate income tax revenue from the investment inflow because there would be no corporate income tax. We therefore need to look elsewhere to address our revenue gap.
a year ago
Definitely eliminating corporate income tax and tax shareholders instead would create more incentives for investing U.S companies and make the tax treatment for different companies more equal. However, for those shareholders who hold large share of U.S companies, would this tax reform encourage them to give up their U.S citizenship? Since I have read such reports before saying that some U.S citizens would give up their U.S citizenship so that they do not need to pay tax on their incomes earned abroad. And if this is the case, there would be more revenue reduction.
Alan Viard
Resident Scholar
a year ago
Many thanks for your comment. It is possible that a few wealthy shareholders might give up their U.S. citizenship, but it's hard to imagine that very many would take such a drastic step. Despite all the media coverage, the number of citizenship renunciations is still quite low. Individual residence is vastly less mobile than corporate charters or the location of corporate profits. Indeed, if individual residence ever becomes too mobile to serve as a tax base, there won't be anything left to tax except land.
a year ago
Having grown up in a majority working class town, the "outsourcing jobs" narrative was very prevalent. I knew lots of adults who blamed outsourcing and large companies for their inability to find a job. The same adults had iPhones. I always saw this as an ironic, considering many of these people could not buy iPhones if it weren't for outsourcing.
I agree with this proposal, but I'm interested to see how such a proposal could be sold to Americans who fundamentally lack an understanding of how globalization affects their daily life. To many lower class voters, CORPORATE income tax represents a crucial redistribution of income and equality of the playing field. Whereas a tax on shareholders using income tax rates represents the types of taxes that low income voters resent.
Any proposal can make sense or be economically viable, but unfortunately that doesn't translate into popular support. I think the real challenge faced will be convincing voters that this is in their best interest.
Alan Viard
Resident Scholar
a year ago
Many thanks for your comment. I am not sure, though, why lower-income voters would resent shareholder taxes, but not corporate taxes. The proposal's ability to bring investment back to the United States and reverse outsourcing needs to be a key part of its messaging. We continue to welcome any suggestions on how to market the proposal.
a year ago
I think this is a great proposal to address the issue of corporate inversions. However, I think the tax proposal in its current form brings forth a handful of new problems. For one, the estimated annual revenue reduction of $170 million is extremely problematic for the United States given our rising national debt. I am also interested to know if the increase in tax rates on dividends and capital gains would lower savings.

Overall, I think two changes that could be made to the proposal to make it more practical would be to tax foreign investors, and to keep the corporate income tax, but to lower it to a rate that is more competitive with the rest of the world.
Alan Viard
Resident Scholar
a year ago
Many thanks for your comment. The proposal would likely reduce savings by Americans to a small extent, while attracting additional savings by foreigners to be invested in the United States.

We are considering modifying the proposal to keep a low-rate corporate income tax. That would be the most practical way to continue collecting some tax from foreigners investing in the United States.
a year ago
What sort of factors/economic variables does the projected 170 billion dollar revenue loss take into account?
I imagine at baseline, the revenue loss would first take into account the total revenue loss from getting rid of the corporate takes then the total revenue gained from the capital gains taxes of US citizens. However, are there any projections of the revenue gains from companies that shift profits back to the US, as well as possible new companies that would have otherwise inverted, or shifted profits, without the new tax law?
Alan Viard
Resident Scholar
a year ago
Many thanks for your comment. The revenue estimate does not assume any changes in behavior by companies or individuals in response to the altered incentives created by the proposal.

Incorporating behavioral changes might not make that much difference. In particular, it is not clear that the investment inflow would result in a significant revenue feedback. To be sure, additional individual income taxes and payroll taxes would be collected on the higher wages produced by the investment inflow. However, the inflow would also drive down before-tax rates of return on capital, which would reduce individual income tax collections on capital income. And, there would be no corporate income tax revenue from the investment inflow or from the re-booking of profits into the United States because there would be no corporate income tax.
a year ago
Overall, this solution is comprehensive and would likely have a positive net impact. I am curious why the authors of this proposed solution decided to completely eliminate taxation on foreign investors. If eliminating the corporate income tax spurs additional foreign investment in US companies, why not at least tax foreign investors at a nominally low rate of say 5%? By not taxing foreign investors at all would the US government be leaving a significant amount of potential revenue on the table?
Alan Viard
Resident Scholar
a year ago
Many thanks for your comment. The complete elimination of the corporate income tax does leave potential revenue on the table. We reached that point, however, because there is no practical way to tax foreign investors without maintaining a corporate income tax and we wanted the simplification and efficiency of completely eliminating the corporate income tax.

Nevertheless, we are now considering modifying the proposal to maintain a low-rate corporate income tax. Doing so would modestly diminish the efficiency and simplification gains, but would allow taxes to be collected from foreign investors.
a year ago
The fact that this proposal is neither a territorial or worldwide corporate tax system solves two problems: it limits 1) the incentive for US corporations to transfer profits and production overseas and 2) the incentive for corporations to invert. While I know many individuals may not like the principle of foreigners not paying taxes, I personally am in favor of this policy. My hope would be that this zero tax on foreign investment would incentivize more investment in the US and in turn increase the broader income tax pool. This, perhaps, could make up for the loss in revenue in the long run. Would it be possible to estimate this increase in investment? Overall, I would be in favor of this plan. This would make the US more competitive in attracting foreign investment and prevent corporate inversions. Given the fact that the IRS collects nearly $3 trillion a year, I think this potential increase in economic activity/investment is worth the initial $150 billion loss in revenue.
Alan Viard
Resident Scholar
a year ago
Many thanks for your comment. Although it is difficult to estimate the investment inflow, it would surely be quite large, given that the corporate rate is being reduced by 35 percentage points. Nevertheless, we still need to address the revenue loss.
a year ago
Overall, lowering the cost of business to shareholders and the corporations themselves is a prudent move to encourage investment, especially with the Federal Reserve likely to continue to raise interest rates in the near future. The proposal makes a strong case that the corporate income tax leads to significant, unwanted distortions in behavior. Therefore,it is better to at least encourage investment to grow the economy rather than drive away business to extract decreasing amounts of corporate revenue.


However, I agree with others here in that the U.S. is sacrificing too much potential revenue especially by not taxing foreigners, or even corporate profits themselves. This problem would further be exacerbated by the looming federal debt, with payments on its interest likely to rise significantly. Consequently, I feel the proposal should maintain its overall theme of low costs to corporations by out-competing other countries, but still extract some revenue through small taxes. Perhaps the proposal currently ends up on the "correct" side of the Laffer Curve? Even if it is wiser to not tax shareholders and corporations, a short term solution is still needed to collect some revenue that the government would now otherwise be forced to borrow.
Alan Viard
Resident Scholar
a year ago
Many thanks for your comment. The long-term fiscal imbalance does make it all the more imperative that the revenue shortfall be addressed.

We are considering modifying the proposal to keep a low-rate corporate income tax. That would be the most practical way to continue collecting some tax from foreigners investing in the United States and it would address the revenue shortfall.
a year ago
The first question that came to mind after I read the proposal is: how will this affect regulation? Since the crisis, large companies have increased the size of their compliance departments because the government has kept such a watchful eye. Will this now shift to individuals? I wonder if that shift has an effect on the government's cost to regulate, maybe it doesn't carry an effect at all. Your study concluded that this new proposal will bring half of the current revenue, so I'm interested to see your recommendations to supplement the current proposal. Like you said, removing the corporate income tax brings investments back to the United States and fuels the economy. As well, I agree with the approach to balance the tax burden on companies that are more equity-financed vs. debt-financed. If companies make decisions based on the way they are taxed, then the tax code is encouraging corporations to be highly leveraged.
Alan Viard
Resident Scholar
a year ago
Many thanks for your comment. Corporate regulation by the SEC and other federal agencies would not be directly affected because that is done separately from the tax system.

Eliminating the corporate income tax would complicate congressional efforts to "regulate" corporate behavior through tax breaks. However, we view that effect as generally beneficial, with the proviso that a few tax breaks such as the research tax credit and the low-income housing tax credit may serve useful functions and may need to be preserved in some other form.
a year ago
The elimination of some of the corporate income tax reporting complexities, such as the depreciation schedules and inventory accounting, is a positive consequence of this proposal. I wonder, however, how the proposal addresses the increased complexities for individual income reporting. Specifically, adding a tax on the value change of a share, either by averaging the share value or some other method, creates an extra burden on individuals, and I would argue puts the greatest burden on the “little” investor who cannot afford to hire an accountant. I realize that many shareholders are wealthy and already employ professional help, but I worry that some of the smaller shareholders would no longer invest. I can also imagine that larger shareholders could afford to “play” the market to move around stocks to minimize the net value increase or otherwise find the “loopholes” to maximize benefits. Under the current tax code, at least the playing field appears more level when corporations alone are in the game.

Furthermore, I can imagine the stock market itself being affected by the new tax laws. For example, in order to moderate the affect of a “value” tax, the tax value of a stock might be calculated as an average of 10 years. If this is the case, won’t investors consider both this average and the current market value of the stock? How will this added consideration impact the buying and selling of stocks overall? Wouldn’t smaller investors be at a disadvantage for buying stock in any company that is “taking off” if the investor has to be prepared to pay taxes before having the profit in hand? (This is a fairness question for everyone in the new system, especially if they buy stock early in a highly successful company’s entrance into the market.)

However, the proposal to make the rates paid graduated instead of a set amount, making the system more progressive, has many merits. I also think that its equal treatment of all types of businesses, thus discouraging becoming a pass-through business, makes a lot of sense.
Alan Viard
Resident Scholar
a year ago
Many thanks for your comment. Subtracting the end-of-year value from the corresponding value a year ago is a simple exercise and mutual funds would compute the values for their holders. It is certainly vastly simpler than computing the appropriate cost amount to deduct from the sales proceeds under today's tax rules. Admittedly, the averaging system adds some additional computations, but they can be made relatively simple. No 10-year average stock price, or anything like it, would be used at any stage of the computations.

The concern about "playing" the market is exactly backward. There are plentiful opportunities to do that under today's rules, by selling some shares and not others. The whole point of taxing accrued gains is to prevent such games. If the shareholder's wealth has increased, she is taxed, regardless of what she does (sell, not sell, switch to other stocks, etc.).

The averaging system should largely address the concern about having to pay taxes before the profits are in hand. Moreover, many of the companies that are in the take-off phase are not publicly traded and therefore would not be subject to accrual taxation.
a year ago
In a hypothetical situation, say the corporate tax rate is cut and shareholders are then taxed (or some modified version with a sizable reduction corporate tax rate and moderate increase in shareholder taxes)... Has the consideration of what foreign government's reaction to America's change been discussed? In theory under the new plan, firms will want to invest and move back to into the US and presumably the American economy grows because of this and internal investment by corporations. If this happens and the economy grows relative to the rest of the world, couldn't it be said that the dollar would appreciate at a noticeably greater rate than foreign economies? The loss of revenue from previously domestic firms that moved to the US as well as foreign investment to these corporations would have a serious drawback to foreign countries. As time passes and the US economy takes off, will foreign governments just sit back and lose their competitive edge versus the US? Or will they find a way to either drop their corporate tax rates (or increase other motivators), essentially starting a war on corporate tax rate?<--(my thinking is similar to a trade war)... Understanding that this of of course is all hypothetical, who's to say something such as this doesn't occur 5-10 years down the road?
Alan Viard
Resident Scholar
a year ago
Many thanks for your comment. The capital inflow into the United States would strengthen the dollar.

It is likely that foreign governments would reduce their corporate tax rates to some extent, in an effort to maintain their competitive standing in world capital markets. (A number of other countries reduced their corporate tax rates after the United States reduced its rate in 1986). If they did that, less capital might flow to the United States than would have if other countries did nothing. Nevertheless, there would still be a significant net capital inflow to the United States. Other countries can't match a 35-percentage-point reduction in the corporate tax rate, particularly because they're starting from rates lower than 35 percent. And, we really shouldn't object to our allies and trading partners improving their tax systems and strengthening their economies.
a year ago
Has any consideration been given to the proposal’s effects on incentives to save? With the number of Americans that don’t have sufficient retirement savings, this proposal has flexibility to create policies that can help solve this problem. For example, if pension funds and 401(k)’s have a lower/no tax, then individuals might have stronger incentives to save for retirement
Alan Viard
Resident Scholar
a year ago
Many thanks for your comment. Under the proposal, Americans would have somewhat less incentive to save outside of tax-preferred accounts because the higher taxes on dividends and capital gains would offset the elimination of the corporate-level tax. As you point out, however, Americans would have a somewhat stronger incentive to save in tax-preferred accounts, including pensions and 401(k)s, as there would be no individual tax increases to offset the removal of the corporate tax. As discussed elsewhere on this site, however, we are considering modifying the proposal to impose a tax on tax-exempt shareholders, including tax-preferred accounts. If that change was made, the incentive to save in those accounts would be diminished.
a year ago
I can't help but feel that taxing shareholders on accrued capital gains at a normal rate instead of when they sell is not the best thing. I think that many Americans would feel that they were being taxed on income that "didn't exist" in their eyes. I personally feel that capital gains, if they are to be taxed on their accrued value, not just when sold, that they be taxed at a preferential rate that reflects that these investments are not being turned into cash today. Holding on to those investments invokes a certain amount of risk that should be reflected in the tax rate.
Alan Viard
Resident Scholar
a year ago
Many thanks for your comment. Your view about not taxing gains until they're turned into cash is widely held. However, the issue is a little more difficult.

Shareholders can obtain cash benefits from their gains even if they do not sell their appreciated shares as they can increase their consumer spending or borrow (or issue options) against the shares. Some prominent tax shelters have involved efforts to capture cash benefits from gains without selling assets.

Conversely, under today's tax rules, a mutual fund holder is taxed if the fund sells an appreciated stock, even if the holder has a preexisting arrangement to automatically reinvest capital gain distributions back into the fund and the fund uses the sale proceeds to buy another stock. Tax is imposed because the fund made a sale, even though the holder never saw any cash.

Trying to base tax treatment solely on whether cash has been received can become quite tricky. Because any appreciation is an increase in wealth, we prefer to tax it, with averaging provisions to smooth out the volatility.
Marc Andonian
VP/Executive Partner
7 months ago
A couple of challenges with your discussion so far. First - it seems that taxing all capital gains at the same rate does not incent individuals or corporations to invest for the long term, and may promote financially expedient behaviors such as short term layoffs, inadequate investment in design/safety, versus delivery of value over the long term. I would rather see special regulations that reduce capital gains rates more progressively based on longer term investment horizons for major shareholders and corporate insiders to ensure a long term view and business strategy. Second, it seems to me that taxing accrued but unrealized gains requires that investors keep money reserved, available/liquid (i.e., un(der)invested) to pay taxes as they are assessed based on performance and timing. This means that the reserves are not invested or working to drive the economy reducing available capital significantly. Depending on the situation, having to pay tax on unrealized gains could trigger major cash flow issues that could cascade into other problems. If, however, the taxes are based on realized gain - they can simply be subtracted from that gain - and an investor can fully invest all of their working capital. My point of view is based on that of an individual investor trying to build assets to support retirement responsibly. I look forward to your comments.
Alan Viard
Resident Scholar
4 months ago
Thanks for your comment.

A rate reduction for typical shareholders' long-term gains would likely have no impact on the behavior of corporate management, as management would not adopt a longer-term perspective merely because rank-and-file shareholders had longer holding periods. Your comment recognizes that, however, by suggesting that the rate differential apply only to major shareholders and corporate insiders; it's possible that changing those groups' holding periods could change management behavior (although that's not entirely clear). However, it would be politically problematic to grant a lower long-term capital gains rate only to those groups. Also, it would be difficult to administer such a selective provision through the tax code.

Investors would not need to "reserve" money for possible tax payments. Investors holding publicly traded assets could sell those assets, if necessary, to pay tax on accrued gains. (With the averaging provision, such sales would be unnecessary in most cases). Investors holding non-publicly-traded assets would continue to be taxed on a realization basis.
a year ago
I agree with James that foreigner investors should be subject to some level of tax, at a globally competitive level, such as 15%, since they are benefitting from our government's stability, infrastructure, and human capital. However, I do like the idea of eliminating the majority of the burden from foreign investors because they gain considerably less from the U.S. public goods. Further, I imagine considerable political backlash for a policy that promotes increased foreign investment. In a time when we are increasingly worried about foreign economic dependency for "national security" reasons, increasing foreign ownership of large US economic actors may be highly controversial.

Overall, I do think the elimination of a tax on the corporate entity, and instead taxing American shareholders of publicly-traded companies on dividends and capital gains at full ordinary income tax rates is useful in promoting investment, eliminating double taxation, eliminating inversions and the bias towards debt financing ect.. However, how will the elimination of the corporate tax affect corporate behavior that is currently incentivized through tax expenditures on corporations via the deductions on the 1120. In particular, how would the elimination of taxes directly on the entity affect the "good behavior" incentivized by deductions from taxable income, such as the provision of employee benefits, charitable contributions, and domestic production activities. Further, who would be hurt by the elimination of these loopholes and who, or what industries might benefit? Would the expected overall increases in wages and growth be enough to off-set losses for individuals who may have previously benefitted from these loopholes?
Alan Viard
Resident Scholar
a year ago
Many thanks for your comment. We are considering modifying the proposal to keep a low-rate corporate income tax. That would be the most practical way to continue collecting some tax from foreigners investing in the United States.

There is little room for concern about the specific tax preferences that you mention. There are almost no business tax breaks for the provision of employee benefits; nearly all of them receive the same business tax treatment as wages. Instead, the tax preference for employee benefits is the exclusion of the benefits from the worker's taxable income; that preference would remain unchanged under the proposal. Today, corporate charitable contributions receive two tax breaks (unlike individual contributions, which receive only one). First, the corporation deducts the contribution. Then, the shareholders' taxes are reduced because the contribution lowers the shareholder's dividends or capital gains. Although our proposal would eliminate the first tax break, it would enlarge the second tax break by raising the dividend and capital gains tax rates. Similarly, the deduction for domestic production activities artificially favors the production of goods over services and requires an array of complicated rules to distinguish the two. That deduction should be repealed, regardless of whether our proposal is adopted. Any tax preferences that serve valid goals, such as the Low Income Housing Tax Credit, could be converted into grant programs and thereby removed from the tax system.

Of course, if the proposal was modified to retain a low-rate corporate income tax, the problem would go away because tax preferences could continue to be claimed against the corporate tax.
a year ago
For me, the possibility that the U.S. will lose $150B in revenue each year is too much to justify completely eliminating the Corporate Income Tax. I believe it should be lowered to a more competitive level, perhaps 15%, until you more fully specify and describe the other ways of boosting revenue so that the whole plan is at least revenue neutral or preferably revenue positive. I am glad to see you discuss raising the capital gains and dividend income taxes and I think that there should still be some way of taxing foreign investors in U.S. corporations. They are using American infrastructure and American workers whose initial education was paid for by the U.S. government, are they not? Nevertheless, to me the whole plan feels incomplete without any fully fleshed out roadmap to fill the hole left open in the budget.
Alan Viard
Resident Scholar
a year ago
Many thanks for your comment. We agree that the proposal is incomplete without provisions to offset the revenue loss.

We are considering modifying the proposal to keep a low-rate (perhaps 15 percent) corporate income tax. That would be the most practical way to continue collecting some tax from foreigners investing in the United States and it would address the revenue shortfall.
a year ago
Wouldn't shifting the burden of corporate taxes to individual shareholders for public companies likely lead to significantly greater stock market volatility and, in some cases, to shareholders being obligated to pay tax without actually receiving sufficient dividends from the companies in whom they own shares? Wouldn't this create massive stock price dislocations and potentially impair the primary purpose of investing in public stocks which is capital formation (e.g. start ups that burn cash but whose stock prices rise because of future expectations)?
Alan Viard
Resident Scholar
a year ago
We envision adding an averaging provision that would allow large gains and losses to be smoothed across several years (see the discussion of that option below). With such a provision, most shareholders should be able to pay their tax liability from dividends or from their other income and assets, without having to sell shares.

In any event, there should be no increase in stock price volatility. If anything, the plan should reduce volatility. If shareholders sold shares to pay taxes after a pronounced market upturn, their sales would tend to drive the market back down; if shareholders bought shares with the tax savings they received after a pronounced market downturn, their purchases would tend to drive the market back up.

Nevertheless, we anticipate that the averaging provision will avoid any significant effect on stock price volatility, whether positive or negative.
What are the best ways to address volatility and liquidity concerns?
Alan Viard
Resident Scholar
a year ago
Under our proposal, shareholders might pay tax on large accrued gains some years and might deduct large accrued losses in other years, as the stock market fluctuates. Some shareholders with large accrued gains might have to sell shares in order to pay the tax. To address these concerns, we suggest that shareholders be allowed to average their tax liabilities over several years and to defer their tax payments in some cases. What are the best ways to design the averaging and deferral provisions? Are such provisions necessary? Would they be adequate to address concerns about volatility and liquidity?
Lisa Goldman Forgang
Chief Policy Officer
a year ago
I think that your recommendation that shareholders be allowed to average their tax liabilities over several years and/or defer their tax payments makes sense. Perhaps it could be structured similarly to how one can carry forward losses from stock sales.
Alan Viard
Resident Scholar
a year ago
Thanks, Lisa. We have decided to adopt an averaging provision.
a year ago
Neither gains nor losses in changed book or market asset values should be subject to taxable events. Only at the time those assets values are converted to cash, or taxable swap, should there be an invocation of taxation. The gain or loss then becomes real. In a nutshell a taxable evenst occur when Gains or Losses are REALIZED. To be sure dividends derived from those assets, rightly fall into the taxable realm.
Alan Viard
Resident Scholar
a year ago
Many thanks for your comment. Your view is widely held and is reflected in the design of the current tax system. Like most economists, however, Eric and I view accrued gains as real. Let me explain our perspective on this question.

It's important to understand that realization is a somewhat artificial concept. Even if they do not sell their appreciated shares, shareholders can "realize" the benefits of the appreciation by increasing their consumer spending or by borrowing (or issuing options) against the shares. Some prominent tax shelters have involved efforts to capture the economic benefits of gains without realizing them. As it becomes easier to manipulate the realization principle through sophisticated strategies, the tax system's reliance on that principle becomes more questionable.

The realization concept is particularly artificial as applied to mutual funds. Under today's rules, a mutual fund holder is not taxed if the fund's stock holdings appreciate and the fund does not sell them. But, the holder is taxed if the fund sells an appreciated stock, even if the holder has a preexisting arrangement to automatically reinvest capital gain distributions back into the fund and the fund uses the sale proceeds to buy another stock. Tax is imposed because the fund realized the gain. But, did the holder, who never saw any cash, actually "realize" anything?

The more one thinks about realization, the more questions arise about whether it's a sound basis for taxation.
Should the proposal’s treatment of tax-exempt shareholders be changed?
Eric Toder
Institute Fellow
a year ago
Under the current tax system, nonprofit organizations are exempt from taxes on most of their income from investments. If they own corporate stock, however, they indirectly pay tax because corporate income tax is collected from the corporations in which they own shares. The same is true for pension plans and for individuals’ investments in 401(k) plans and other qualified retirement plans. By eliminating the corporate income tax, our proposal would give these tax-exempt shareholders an unintended tax cut. To offset this tax saving and provide a level playing field among alternative investment choices by tax-exempts, our proposal would impose a low-rate tax, maybe at a 15 percent rate, on the interest, dividends, capital gains, and business income of these shareholders. What changes, if any, should be made to this part of the proposal?
a year ago
Why do you believe though that for pension plans and 401(k) plans the cut to the official corporate tax rate would be equal most of the time to a 15% rise in capital gains, ect. when corporations might use that money instead to re-invest in the business or raise employee wages rather than benefit the shareholder directly via share buy-back programs for example? Further, isn't the tax-exempt status of programs like pension plans the original incentive for using them?
Alan Viard
Resident Scholar
a year ago
In reality, pension funds and other retirement accounts are not fully tax-exempt today because they indirectly pay corporate income tax on the stock that they hold. Eliminating that indirect corporate tax burden and directly imposing a flat tax on their investment income at an appropriate rate would not increase their tax burden, but would merely make it more transparent and more uniform.

Still, I understand the concern about taxing pension funds and other retirement accounts. An alternative possibility, which deserves consideration, would spare them from the tax and impose it only on non-profit organizations, such as university endowments.
Alan Viard
Resident Scholar
a year ago
You raise an important question about the burden of the corporate income tax. Part of the corporate income tax is probably borne by workers in the form of lower wages; repeal of the corporate income tax would correspondingly increase wages (over a period of time). Some leading estimates suggest that approximately 20 percent of the corporate income tax shows up in wages; other estimates suggest 40 percent or higher.

In contrast, a tax on shareholders is unlikely to change wages to any significant extent.

In order to avoid a tax increase on tax-exempt shareholders, therefore, we should calibrate the new tax on investment income to offset only the net benefits (accounting for the wage effects) that those shareholders receive from corporate tax repeal.

Please note that 15 percent is merely an illustrative number. We plan to do a more precise calculation in the upcoming months. We will carefully consider how to account for the wage effects.
a year ago
Would this proposal provide incentives for wealthy individuals to set up offshore trusts? Would withholding reduce this incentive?
Alan Viard
Resident Scholar
a year ago
Elliott, many thanks for your question. Although Americans are subject to U.S. tax on their worldwide income, including overseas asset holdings, some wealthy Americans try to evade tax by holding assets overseas and hiding the holdings from the U.S. authorities. However, the Foreign Account Tax Compliance Act (FATCA), adopted in 2010 and now being implemented, includes powerful tools to impel foreign financial institutions to report Americans' asset holdings to the U.S. authorities.

Because our plan would increase individual-level taxes on stock holdings, it would, to some extent, increase the incentive to try to evade tax by holding foreign stocks and hiding the holdings from the U.S. authorities. Nevertheless, we believe that FATCA should be sufficient to curb such efforts. If not, FATCA could be strengthened.
Should a tax on foreigners investing in the United States be added to the proposal?
Alan Viard
Resident Scholar
a year ago
Under the current tax system, corporations that earn profits in the United States pay U.S. corporate income tax. That tax falls on all of their shareholders, including foreigners. Because our proposal would abolish the corporate tax and replace it with taxes on American shareholders, it would eliminate U.S. taxes for foreign shareholders whose companies earn profits here. That tax-free treatment would be a powerful inducement for foreigners to invest in the United States, strengthening our economy. But, would that approach go too far? Should the proposal be changed to keep some kind of tax on those foreign investors?
Giovanni Bruna
Junior Analyst
a year ago
The proposal should definitely keep some kind of tax on the foreign investors, as a back up to investment in America.
Alan Viard
Resident Scholar
a year ago
Many thanks for your comment. We are seriously considering maintaining some tax on foreign investors.

One option would be to keep a low-rate corporate tax. If American shareholders were allowed to claim their share of the corporation's tax payment as a credit against their capital gains and dividend taxes, only foreign shareholders would bear a net burden from the tax.
a year ago
The impact of this change would depend on the reaction of foreign governments to the change in U.S. corporate taxes.
Alan Viard
Resident Scholar
a year ago
Elliott, this is a good point.

It is likely that many foreign governments would reduce their corporate tax rates to some extent, in an effort to maintain their competitive standing in world capital markets. (A number of other countries reduced their corporate tax rates after the United States reduced its rate in 1986). If they did that, less capital might flow to the United States than would have if other countries did nothing.

Nevertheless, there would still be a significant net capital inflow to the United States. Other countries can't match a 35-percentage-point reduction in the corporate tax rate, particularly because they're starting from rates lower than 35 percent. And, we really shouldn't object to our allies and trading partners improving their tax systems and strengthening their economies.
a year ago
You should check how Estonian tax system works:
https://en.wikipedia.org/wiki/Taxation_in_Estonia

It is very similar to what you propose, but they solve few of your problems:

- There is no dividend tax, instead there is corporate tax that is applied at the moment when dividends are paid of.

- There is no capital gain tax, instead people pay taxes when they sell their shares.

- There is also ability to have special investment account that is exempt from paying taxes. You pay taxes only when you transfer the money to your personal account to actually use them.

All of these principles are very investment and business friendly and they share very interesting philosophy: "Act like the state is responsible investor in the business. You just don't take money from business when this money could generate more profit later"
Local economic impact
a year ago
Our City of Springfield has recently lost two major businesses which went offshore in the past 10 years due to high corporate taxation at the federal level. Needless to say, the impact on our city at the local level has been devastating.

Therefore, the issue of revenue neutrality goes far beyond the impact at a federal level. This proposal could also preemptively help to strengthen existing companies and regional economies--or at least thwart potential closures.
Alan Viard
Resident Scholar
a year ago
Many, many, thanks for your comment. We do believe that our plan would strengthen the American economy and would benefit communities throughout the country.
Debt vs. equity-financed companies
a year ago
I have grown my high-tech manufacturing company from scratch and now employ 10,000 highly-paid professionals plus a support staff of 2,000. Given that nature of our industry and in order to grow, we had to raise several rounds of equity; we were not able to raise any debt until we achieved substantial revenues.

Not only is our cost of capital higher than that of most other manufacturing companies but also we are at a significant tax disadvantage as we have very little interest to deduct.

If the US government promotes home ownership (over renting) by allowing residents to deduct their mortgage payments, shouldn't there at least be parity for companies creating real jobs which is always touted as an objective of the government??? Instead, we create jobs and are penalized.
Alan Viard
Resident Scholar
a year ago
Many thanks for your comment. The corporate income tax is essentially a tax on job creation in the United States. Its elimination would dramatically reduce the cost of capital for manufacturing companies, and other companies, operating in the United States.
Rollout and integration plan
Deborah Devedjian
Founder & Chief Citizens' Officer
a year ago
Would the proposal be strengthened with a timeline for the rollout and how, if, at all, corporations would be affected and then how shareholders would be affected by this new measure?

Would we need to cover short-term revenue shortfalls?
Effect on economic stimulation
a year ago
Wouldn't this proposal, by turning the US "into the world's largest tax haven," stimulate the economy so much over the medium to long term that it would ultimately offset any short-term revenue shortfall--and generate a net annual revenue gain?
Deborah Devedjian
Founder & Chief Citizens' Officer
a year ago
Any estimates on this figure in, say, 5 years? 10 years?
Patrick Cremen
Junior Policy Analyst
a year ago

a year ago
Are there any statistics that demonstrate stronger economic growth in countries or states without corporate income tax than for those with corporate tax?
Alan Viard
Resident Scholar
a year ago
The increased investment in the United States would make labor more productive, thereby boosting real wages over the medium to long term. The government would collect individual income and payroll taxes on the increased wages. However, the increased investment would also drive down the before-tax rate of return on investment in the United States, so there would be some reduction in the individual income taxes collected on capital income.

Although there could be a net positive revenue feedback, we are reluctant to rely on that possibility and are looking for ways to offset the plan's revenue loss.

This proposal is now closed.

The US Treasury Secretary acknowledged the people’s desire to honor abolitionist leader Harriet Tubman. As of 2020, she will be the new face of the $20 bill, with the portrait of Andrew Jackson relocated to the back. Alexander Hamilton will remain untouched on the $10 bill, and we continue to honor his vision.

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Your voice has been heard.

Thank you for voting on this proposal.

The US Treasury Secretary acknowledged the people’s desire to honor abolitionist leader Harriet Tubman. As of 2020, she will be the new face of the $20 bill, with the portrait of Andrew Jackson relocated to the back. Alexander Hamilton will remain untouched on the $10 bill, and we continue to honor his vision.

Your opinion is valued and we encourage you to check out other proposals on issues important to you.