Cutting business taxes, the smart way

By James Pethokoukis

US-has-the-least-competitive-corporate-tax-rate-in-the-OECD

Corporate tax reform isn’t so straightforward, as Caroline Baum notes:

So lowering the corporate rate makes a good deal of sense in theory. In practice, it’s not so clear-cut. If a CEO of a large corporation can exploit tax loopholes to reduce the effective rate to 20 percent, a statutory rate of 25 percent (Republicans’ proposed target) or 28 percent (Obama’s goal) doesn’t maximize shareholder profits.

And that’s where the ideal of lower tax rates and minimal loopholes gets mugged by reality. Dave Camp, the former Republican chairman of the House Ways and Means Committee, learned just how tough it is to garner support among his own party and the business community when he introduced his Tax Reform Act of 2014 in February. The cost of lowering the corporate tax rate to a stated 25 percent was, among other things, the elimination of accelerated depreciation, one of the three most costly corporate tax expenditures and something that “would hurt capital formation and manufacturing,” Sullivan says.

Some economists question whether accelerated depreciation should be classified as a tax expenditure, defined as any reduction in tax liability as a result of special benefits to particular taxpayers. Labor-intensive firms get to write off employee salaries when they cut payroll checks, says Matt Mitchell, senior research fellow at George Mason University’s Mercatus Center. “We shouldn’t penalize companies that have to incur capital expenses in order to earn income.”

I have written before about the tricky trade-off between cutting rates and paying it for by a slow-down in depreciation deductions. And here is AEI’s Alan Viard:

Yes, let’s cut the corporate tax rate. But, let’s not slow down depreciation to pay for it. Let’s phase in the rate cut gradually, to trim the revenue loss and diminish the windfall to old capital. Let’s recoup some revenue by cutting back on corporate deductions for interest payments, a measure that will also reduce the tax bias in favor of borrowing. And, let’s extend the reform to individual taxes and craft a comprehensive revenue-neutral package. Although the details of corporate tax reform may sound technical, the stakes are high. We can’t afford to give windfalls for investments made in the past. Instead, we should reward the new investments that will help move us towards a prosperous future.

James Pethokoukis is a columnist at the American Enterprise Institute.

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