Dear Dr. Dollar:
My congressman, John Mica (R-Fla.), sent me a letter
claiming that "the high income tax rate of 40%
for U.S. corporations, unlike most competitors, does
not provide relief for the double taxation of corporate
income." Like the double talk? He wants to reduce the
incentives for companies to move offshore by lowering
corporate income taxes. But what's the best response to this
claim about "double-taxation"? I don't know much about economics,
but I do know enough to know that this position is a con job.
—Sandra Holt, Casselberry, Fla
This article is from the January/February 2007 issue of Dollars & Sense: The Magazine of Economic Justice available at http://www.dollarsandsense.org
This article is from the January/February 2007 issue of Dollars & Sense magazine.
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When corporations and their friends in Washington go on about "double taxation," what they're referring to is the notion that if corporations are taxed on their income and shareholders on their dividends, then the same income is getting taxed twice, with the implication that this is unfair or unduly burdensome. You're right to view this idea as a con job. Here's why:
First, the corporation as an entity is legally distinct from its shareholders. This distinction lies at the core of the notion of limited liability and protects individual shareholders from liability for damages caused by the corporation's pursuit of profits. The claim of "double-taxation" is bogus because the two taxes apply to different taxpayers—corporations versus individual shareholders.
Second, the double taxation claim is a bit of a red herring since many kinds of income are in effect double taxed. For instance, along with the income tax, workers also have to pay Medicare and Social Security taxes on their earnings. In fact, investment income is currently treated more favorably by the tax code than wage income. Investment income is taxed at an average rate of 9.6%, compared to 23.4 % for wages. One reason for this disparity is that investment income is exempt from Medicare and Social Security taxes. But a second key reason is the reduced special tax rate for investment income approved by Congress during Bush's first term. This includes cutting the top tax rate on dividends from around 35% to 15%. As David Cay Johnston of The New York Times has observed, "the wealthiest Americans now pay much higher direct taxes on money they work for than on money that works for them."
Who benefits when the tax code rewards investment rather than wage earning? The wealthy, who garner most investment income: about 43% of total investment income goes to the top 1% of taxpayers.
Repealing the dividend tax would only exacerbate that disparity. According to Federal Reserve Board data, fewer than 20% of families hold stocks outside of retirement accounts. Individual stockholdings are concentrated among the richest families, who would be the real beneficiaries of a dividend tax break. Some 42% of benefits from repealing the dividend tax would go to the richest 1% of taxpayers, and about 75% would go to the richest 10% of taxpayers.
In contrast, the vast majority of those who own any stock at all hold their stocks in retirement accounts. They neither receive dividends on these shares directly nor pay a dividend tax—but they'll find themselves paying the normal income tax as soon as they begin drawing on their retirement accounts.
Do taxes impose a disproportionately heavy burden on U.S. corporations? The oft-quoted 40% tax rate applies only to a tiny proportion of corporate income. The official tax rate for most corporate profits is 35%; the very smallest corporations (those with income under $50,000 per year) are subject to a rate of only 15%. Moreover, the official tax rates are higher than the effective tax rates that corporations actually end up paying. A variety of tax breaks allow corporations to reap tremendous tax savings, estimated at $87 billion to $170 billion in 2002-2003 alone, according to a study by Citizens for Tax Justice. The double-taxation argument would have meaning only if the actual burden of corporate taxes were excessive. But it is not. In 2002-03, U.S. corporations paid an effective tax rate of only about 23%. Forty-six large corporations, including Pfizer, Boeing, and AT&T, actually received tax rebates (negative taxes)! Far from being a crushing burden, corporate income tax in the United States has fallen from an average of nearly 5% of GDP in the fifties to 2% in the nineties and about 1.5% (projected) in 2005-2009.
Is the U.S. corporate tax burden higher that that of its competitors? Comparisons of 29 developed countries reveal that only three—Iceland, Germany, and Poland— collected less corporate income tax as a share of GDP than the United States. This represents a reversal from the 1960s, when corporate income tax as a share of GDP in the United States was nearly double that of other developed countries.
The demand for cutting dividend taxes needs to be exposed for what it is: an attempt to create yet another windfall for upper income families who earn the bulk of their income from financial investments. It would not stimulate business investment. And it would exacerbate, rather than redress, the many real inequities in the tax code.