February 24, 2012

Is Obama's Corporate Tax Plan a Good Idea?

Nick Tuszynski

Summary

Lawmakers should push for a territorial system that protects business from this type of double taxation, and a lower rate in line with the OECD's average.

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The US News Debate Club posed the following discussion question:

On Wednesday, the Obama administration released plans to overhaul the country’s corporate tax code.

“We want to restore a system in which American businesses succeed or fail based on the products they make and the services they provide, not on the creativity of their tax engineers or the lobbyists they hire,” Treasury Secretary Timothy Geithner said during the administration’s announcement of the new proposal.

The election-year proposal would cut the top corporate tax rate—currently the highest in the modern world—from 35 percent to 28 percent. In exchange for a lower tax rate, Obama’s proposal would remove loopholes employed in all different sectors that allow companies to avoid paying taxes.

The plan hits oil and gas companies hardest, removing what Geithner referred to as “special benefits” for those industries. The proposal would benefit small businesses, manufacturing, and clean energy, industries favored by the current administration.

Proponents of reforming the corporate tax code argue that the United States has been at a competitive disadvantage for years because of the corporate tax rate. They point to other countries with significantly lower corporate tax rates and explain how doing business in other countries is cheaper.

Some critics of Obama’s proposal argue that it doesn’t go far enough, as even a 28 percent tax rate would still be the third-highest tax rate in the developed world, slightly better than the rates in France and Japan. Others assert that the Obama administration is picking favorites in the private sector by proposing to provide tax breaks for certain industries.

Is Obama’s corporate tax plan a good idea?

Mercatus fellow Nick Tuszynski provided the following response:

Obama's Proposal a Little Good, Some Bad, a Whole Lot of Ugly

President Obama's corporate tax plan reminds me of the movie The Good, The Bad, and the Ugly. In the movie, Clint Eastwood plays Blondie, who famously states, "You see, in this world there's two kinds of people, my friend: Those with loaded guns and those who dig."

Politicians, and a few others, hold the guns in America. Ideally, lawmakers try to improve the lives of "those who dig" through policy decisions, such as reforming the corporate tax code. However, the president's plan is only a small step forward, and falls short of improving the lives of American workers and businessmen. The proposal is a little good, some bad, and a whole lot of ugly.

The good part lowers the corporate tax rate from 35 to 28 percent. After allowing the corporate tax rate to remain stagnant at 35 percent for nearly 25 years, other companies have shifted operations to lower-taxing countries. For example, in 1960, the U.S. had 17 of the 20 largest firms in the global economy. Presently, the U.S. has six.

In theory, lowering our tax rate will incentivize other countries to bring business operations back to the United States. The president also noted the tax base should be simplified, broadened, and loopholes should be closed. These ideas should be applauded. Unfortunately, the bad and the ugly quickly outweigh these positives.

Slashing the corporate tax rate from 35 percent to 28 percent seems significant, but the average for countries belonging to the Organisation for Economic Cooperation and Development is 25 percent. Even at a reduced 28 percent, we only move from having the second-highest rate to the fourth-highest. Very quickly, "slashing" of the corporate tax rate does not seem as impressive.

Most importantly, the president's proposal completely ignores a glaring impediment to economic growth and job creation in the current corporate tax system. The United States is one of a handful of OECD countries that still uses a worldwide tax system, instead of a territorial system.

Under a worldwide system, American firms pay a toll to bring foreign profits into the United States. In order to compete with international firms exempt from this law, domestic firms have to either raise prices or lower expenses, like the wages they pay employees.

This structure robs everyone of potential wealth. It encourages firms to leave profits abroad, instead of reinvesting them in U.S. research, development, jobs, and other economic-generating activities.

Lawmakers should push for a territorial system that protects business from this type of double taxation, and a lower rate in line with the OECD's average.

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