The Unspeakably Wonky Idea That Can Solve the Corporate Tax Debate

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Kentucky Senator Rand Paul isn’t happy that Apple executives are being questioned by the Senate Permanent Subcommittee on Investigations today regarding their tax avoidance strategies. Apple is completely justified, Paul argued, in paying as little in taxes as is legally acceptable. “Instead of Apple executives we should have brought in here a giant mirror,” he said. “”Congress should be on trial here for creating a byzantine tax code.”

Though committee chair Carl Levin would probably disagree with Paul’s characterization of today’s hearing as a politically motivated witch hunt, Paul’s analysis is at least correct in the sense that corporations will always pay the least amount of taxes they can within the bounds of the law — and if anybody is to blame for low effective corporate tax rates, it’s Congress.

(MORE: The Corporate Tax Rate Is Lowest in Decades; Is Business Paying Its Fair Share?)

So how can the law be crafted so that companies can’t engage in the sort of tactics that have allowed Apple to pay much lower tax rates that the law intends? One idea that’s been bandied about for many years, but which hasn’t made a lot of headway, goes by the not-so-glamorous name “formulary apportionment.” Under this system, the U.S. could tax companies based on what percentage of sales occur here. For instance, if Apple sold 30% of its products in America, then the U.S. government would tax 30% of Apple’s income at the statutory corporate tax rate of 35%.

This sort of system would work best if it were implemented internationally, but as the Brookings Institute points out in its analysis of formulary apportionment, the U.S. could move to this sort of system unilaterally because the move would actually incentivize companies to report their profits in America. This is because we’d be taxing only a fraction of profits regardless of where they’re reported, and this dynamic would motivate other countries to jump aboard a formulary apportionment system as well.

Some powerful, multinational corporations may oppose such a move for several reasons. The current system allows multinational corporations to play tax jurisdictions against each other, threatening to move profits and facilities away from high-tax countries towards low-tax ones. This strategy has worked quite well, as corporate taxes have been falling across the globe for several decades.

But lower corporate tax rates mean that the tax burden gets shifted towards individuals. In the end Americans and other governments may decide this would be the best way to promote economic growth. But that question ought to be debated and decided by democratic institutions, rather than a function of multinationals growing clout. Some economists argue, for instance, that we should eliminate the corporate tax altogether and raise taxes on sales and dividends. Such a system could be made robust and progressive, if that’s what we choose to do.

But as it stands, the expansion of free trade and an increasingly globalized economy have given a select few, powerful companies the ability live beyond the reach of the taxman altogether, and this should concern folks of every political stripe. You can believe in limited government and still believe that nobody should be above the law.

(MORE: Should Uncle Sam Be Doing More to Get His Hands on the $1.7 Trillion U.S. Companies Hold Overseas?)

2 comments
JimB210
JimB210 like.author.displayName 1 Like

While reform of the tax code is desperately needed, and corporate taxes would be an excellent starting point, I doubt in our current poisonous political climate we will see any progress on this problem simply because both sides fail to see how it can provide any partisan advantage for them In fact the 'business' of Congress consists in its practice of selling political access and then favors, mostly directed to increasing the investment returns of corporations and the wealthy individuals that control them or providing government largess or market protection in return for the contributions and lobbyists perks. This is achieved through the legalized bribery of campaign contributions as well as the political reality of smart politicians dodging SuperPAC and 501c4 organizations attacks by performing as the parties behind such 'anonymous and charitable' groups desire. Between the Congressional sellouts to the highest bidders (excuse me, "contributors") and the gerrymandering that protects highly partisan politician's actions, the chance of any meaningful reform in tax codes is miniscule at best.