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Are U.S. Corporate Tax Rates Stifling 'Ethical' Behavior?

Are Lower Corporate Income Rates the Answer to Increased Economic Activity?

Given the focus on ‘paying your fair share’ of taxes this election cycle, I want to bring attention to the controversial issue of whether the U.S. corporation tax rate is too high, leading to the outsourcing of jobs overseas; motivating companies to set up shop abroad and; skirting U.S. taxes. If this is the case, are U.S. corporations following ethical practices or, more specifically, acting like socially responsible businesses. It seems an appropriate topic for my blog since the Presidential debates start tonight and it is a contentious issue between the candidates.

As you may know, the U.S. has the highest corporate tax rate in the world. The U.S. rate stands at 39.2% when both federal and state rates are included. The second highest is Japan with a 36.8% rate after lowering it from 39.8 this past April. We all know how Japan’s economy has been in a malaise in the last two decades. Perhaps high corporate tax rates are part of the reason.

In comparison, France has a 33.3% rate [and a top rate of 75% on individual income of more than €1 million ($1.25 million)]; the United Kingdom, a 26% rate, China, 25%, and, at the low end, both Canada and Germany with a 15% rate. Finally, Switzerland’s rate is 8.5%. Perhaps not coincidentally, Canada, Germany, and Switzerland have fared better during the Great Recession of the past five years than other countries.

Loopholes and other special treatment for different kinds of businesses mean that businesses in the United States pay an effective rate of only 29.2% of their income, which puts the U.S. below the average of 31.9% among other major economies, according to analysis by the Treasury Department. However, the effective rate is not known until tax deductions are determined and it doesn’t affect the decision whether to shift profits overseas or keep it in the U.S.

Should corporations act in a ‘socially responsible’ manner and pay the highest corporate tax? Our capitalist economic system relies on the belief that corporate managers should act in the best interests of shareholders. And, as noted economist Milton Friedman stated in a 1970 essay in the NY Times Magazine, the only social responsibility of business is to maximize profits to enhance shareholder wealth. Friedman believed the basic doctrine of "social responsibility" involves the acceptance of the socialist view that political mechanisms, not market mechanisms, are the appropriate way to determine the allocation of scarce re­sources to alternative uses.

I believe the issue of social responsibility should be couched in the avoidance of taxes by U.S. businesses that keep their profits overseas. Under the U.S. tax system, corporate profits are not taxed until they are repatriated back to the states. Further, companies use a technique known as transfer pricing to shift more profits overseas to countries with low tax rates. Ireland is a popular destination for U.S. businesses with its low 12.5% rate. Essentially, parent corporations charge artificially low prices to overseas subsidiaries for goods shipped overseas thereby minimizing taxable income in the U.S. while those subsidiaries charge market prices for their sales to customers in overseas markets.

It has been estimated that the deferral of tax payments may be costing the U.S. Treasury $100 billion or more each year. Republicans contend that a lowering of the corporate tax rate would encourage U.S. businesses to repatriate profits and it could stem the tide of outsourcing jobs. There is no hard evidence to believe this to be so. However, I contend we are in desperate economic times in the U.S. and need to think outside the box to improve the economy.

My suggestion is to institute a lower rate of 15% to be competitive with other industrialized countries, and keep it in place for two years. If this leads to repatriated profits, higher taxes paid to the U.S. government, and the in-sourcing of jobs, then the 15% rate should be made permanent. If, however, U.S. businesses do not send their profits overseas and continue to outsource jobs, it means one or more of three things: (1) they are motivated by lower wage rates outside the U.S.; (2) they may feel stifled by the excessive regulatory system in the U.S.; and (3) they may truly want to be closer to their expanding overseas markets.

Corporate America reacts to incentives to maximize profits that can lead to higher personal income through bonus and other incentive compensation, and rising stock prices. There is nothing wrong with it. It is a part of our system. However, we must begin to initiate policies to reduce the growing number of people in poverty, bring more into the middle class, and do what is necessary to reverse years of stagnant growth that has lowered the overall income of far too many currently in the middle class. In my view this is an ethical issue, not one based on paying a “fair share” of the taxes. Corporations have an ethical obligation and social responsibility to do what it takes to improve the economic circumstances of all members of its community -- a community that depends on jobs and economic activity. Our society cannot prosper without an ever-expanding middle class and lowering of the poverty rate in this country.  

Blog posted by Steven Mintz, aka Ethics Sage, on October 3, 2012