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Trump's big, stupid tax plan
The president's plan to cut the corporate tax rate is wrong in every conceivable way
Barreling towards his 100-day mark with little to show for it, President Trump is reportedly desperate to show some momentum. So today, the president is a releasing a new bullet-point proposal on tax reform. Its centerpiece is a giant cut to the corporate tax rate, dropping it from 35 percent to 15 percent.
Mercifully, it's unlikely Trump could ever get such a thing passed, for reasons I'll explain below. But cutting the corporate tax rate is one of those bits of centrist and right-wing conventional wisdom that just never seems to die. It's worth picking apart.
While it's rarely mentioned in reporting, the corporate tax is actually progressively designed, just like the income tax, and consists of four brackets. The 35 percent rate that usually gets mentioned is the highest bracket, which only applies to corporate profits over $10 million. When you add on state corporate taxes, the top possible rate jumps to 39.1 percent.
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As a matter of statute, that is indeed the highest rate in the advanced world.
As a matter of practice, however, America's corporate tax is like its income tax — riddled with more holes than swiss cheese. Thanks to various carve-outs, the tax rates U.S. companies actually pay are all over the place. According to the Congressional Budget Office, the average of all those rates comes out to a more modest 25.4 percent.
Right away, this is a big problem for Trump. The classic argument for corporate tax reform is "broaden the base and lower the rates" — i.e. close the loopholes so you don't actually lose any revenue when you cut the statutory rate. This is doubly important this time, since the GOP will need to use reconciliation to pass tax reform through the Senate, and bills passed via reconciliation have to be budget neutral.
If the average corporation in the U.S. pays 25.4 percent when you account for loopholes, there's no way to cut the top statutory rate to 15 percent and still keep the same level of revenue. Hence, Trump's proposal is likely D.O.A.
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But let's set aside the questions of politics and deficits for a moment. On the merits, is 25.4 percent still too high?
This is tough to parse. Every country's tax code is complicated, so you have to make sure you're comparing apples to apples. On the one hand, differentstudies conclude that even accounting for the loopholes, the U.S. corporate tax is still pretty high — though not the highest. At the same time, if you look at tax revenue from corporate profits as a percent of GDP, America is well below the average for economically developed countries: 2.3 percent versus 2.7 percent, respectively.
Another interesting and relevant wrinkle in America's tax code is what's called "pass-through" corporations. Their profits aren't hit by the corporate tax at all, but by the regular income tax. And analysts on the left and right agree: The share of pass-through corporations (S-corporations, partnerships, and sole proprietorships) is growing, while the share of traditional corporations (C-corporations) is shrinking. This could explain why America's revenue from the corporate profits tax, which just hits C-corporations, is so low.
What the left and the right disagree on is how to characterize this fact: Are companies bilking the public by rejiggering their legal status? Or are they smartly avoiding the damaging rate paid by traditional C-corporations?
Well, here's one thing to consider: When you combine after-tax profits for all types of corporations, they're at near-historic highs as a share of the economy:
When people want to cut the corporate tax rate, their story is: Profits are the rewards that businesses get for doing something innovative or productive for human society. If we tax their profits, we discourage them from creating jobs and doing all that other great stuff. So we should cut corporate taxes.
The problem with this story is corporations are groups of people viewed by the law as a single entity. And it's that singular legal entity to whom the profits go. The actual workers are viewed as "input costs." This means doing productive stuff for society isn't the only way a company can increase its profits. It can also increase profits by depressing wages for its workers, by shirking investments, or by consolidating monopoly power.
Sure enough, over the same time period that corporate profits have risen, wage growth has slowed and incomes have stagnated. Unions and tight labor markets, which give workers the leverage they need to bargain for a cut of company revenue, have disappeared. Investment is remarkably low, and corporate concentration has increased.
Here's what's most telling: Back when corporate profits were lower and fewer corporations were jumping ship for pass-through designation, rates of productivity growth and real GDP growth were higher.
Put all this together, and it's pretty hard to credit the story that corporate profit margins are the result of great contributions to social welfare. Rather, they look like corporations bleeding workers and customers with low wages and monopoly power. Meanwhile, the shift from C-corporations to pass-through corporations looks less like a desperate attempt to avoid damaging tax burdens, and more like companies who already enjoy immense wealth and power just milking the system for a few more dollars.
Maybe someday, we'll live in a world where corporate profits are hemmed in by worker power and fierce competition. In that world, it's conceivable that taxes on corporate profits should come down.
