February 22, 2012

How Corporate Tax Reform Affects Individuals

Antony Davies

Senior Affiliated Scholar

When we raise corporate taxes, it’s people not corporations that end up paying the price.

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The president’s plan leaves three unanswered questions. First, will the tax cuts be temporary or permanent? Temporary tax cuts do not encourage businesses to create jobs. If it’s not profitable for a firm to hire a worker before the tax cut, then it won’t be profitable to keep the worker when the temporary tax cut expires. To incent businesses to create jobs, the tax cuts have to be permanent. 

Second, will they apply to all businesses equally or to the politically favored? Tax cuts need to apply to all businesses equally, because the government isn’t good at figuring out which industries need to be supported in order to grow the economy. Consumers and private investors are much better at this, and they will support those industries by buying their products and providing them with investment capital. When the government forces us to spend our money on goods we don’t want (CFC light bulbs) or forces us to invest our savings in industries that we deem too risky (green energy), it creates a drag on the economy. Tax cuts applied only to politically-favored industries, support industries based on their political value to Washington, and not on their economic value to the people.

Lastly, will closing the loopholes make the tax code simpler or more complicated than it is today? The more complex a tax code is, the easier it is for businesses to avoid taxes and the easier it is for politicians to hand out favors without the public noticing. As the tax code becomes more complex, it becomes more profitable for firms to spend their energy figuring out ways to use the code to their advantage rather than spending their energy figuring out ways to deliver better and cheaper products to customers.

Why should you care? Individuals end up paying the price for corporate taxes, not corporations. There are only three ways a corporation can pay for increased taxes. A corporation either has to pay its workers less, charge its customers more, or pay its stockholders less. If it pays its workers less, then people end up with lower incomes. If it charges its customers more, then people end up paying higher prices. If it pays its stockholders less, then people’s retirement savings lose value.

"Corporations are people” is not the right way to look at it. However, corporations are run by people, serve people, and provide people with savings income. So when we tax corporations, it is people, not the corporations, who pay the price.