Ten reasons to defend the corporation tax
10 reasons we should tax corporations
Nicholas Shaxson, March 17, 2011
Treasury plans to let big companies dictate tax rates are based on bogus arguments – corporation taxes are fair, and they work
A new report by the consultancy Tax Research UK estimates that only a third of UK companies paid tax in 2009, and that the Treasury could be missing out on £16bn in unpaid taxes. This follows calls by the Association of Revenue and Customs (ARC), a union representing HM Revenue & Customs (HMRC) staff, for £260m in pump-priming funding for HMRC to raise £6bn in taxes, much of it from large corporations, to provide "an alternative to spending cuts". UK Uncut, a protest movement criticising corporate tax avoidance, has a similar message.
Not everyone agrees. David Gauke, exchequer secretary to the Treasury, sneered at UK Uncut in a speech this month to the Hundred Group of finance directors. Corporation tax is not a victimless tax, he argued: "The consensus, among economists at least, is that it's predominantly the employee who foots the bill." Corporation taxes harm workers, this argument goes. Some also argue that corporate taxation involves unfair double taxation, because we tax corporations once, then tax their dividends. Followers of the US economist Arthur Laffer even believe that corporation tax cuts pay for themselves, by creating extra economic activity which can then be taxed.
The subtext in all these arguments is that we should cut or even eliminate corporation taxes, and go soft on tax avoidance. This message underpins current Treasury proposals to let large companies write UK tax laws and slash their effective tax rates by using special exemptions when they use tax havens. George Monbiot rightly described these proposals in the Guardian last month as "the biggest and crudest corporate tax cut in living memory".
Yet the arguments that underpin these moves are bogus. Here are 10 solid reasons why we should tax corporations:
1) Corporate profits depend on tax-financed public goods: healthy and educated workforces; good infrastructure; publicly enforced respect for contracts and property rights, and so on. When corporations avoid or evade tax, legally or illegally, they free ride on the backs of the rest of us. Stop taxing them, and you savagely undermine political community.
2) Corporation taxes are an essential backstop to personal income tax. Cut them to zero, and wealthy individuals will increasingly reclassify their earnings as corporate income, typically using offshore corporate structures, and escape tax. Gauke's arguments about employees footing the corporate tax bill are irrelevant.
3) Gauke's claim of a "consensus among economists" that the burden of corporation taxes falls on employees and not on capital owners, is false. The US Congressional Budget Office said last week that it was "unclear" how much of the corporation tax burden fell on employees; earlier, it said that capital bore most or all of the corporate tax burden. The Institute for Taxation and Economic Policy (ITEP) in Washington said this month that the incidence of corporate tax fell mostly on capital owners, not employees. It added that corporate income tax was among the most progressive taxes, because stock ownership was heavily concentrated among the wealthiest taxpayers. This is an especially precious tax.
4) When Gauke talks about "employees", who does he mean? Goldman Sachs employees earned $430,700 on average last year. To the extent that the burden falls on them, taxing such firms makes the tax system more progressive. It would also cut into excessive bank remuneration, which has been a big factor in the recent financial crisis. Taxing financial corporations also curbs the "too big to fail" problem where large banks can hold governments hostage and shift losses on to taxpayers.
5) If corporation taxes didn't fall on the owners of capital, as Gauke claims, then corporations, responding to shareholders' wishes, shouldn't mind being taxed. So why do they spend so much time and money designing tax avoidance strategies?
6) Limited liability companies are separate legal persons, greater than the sum of their parts. So they should be taxed separately: this is not "double taxation". Limited liability lets shareholders dump costs on to society when things go wrong. Corporations must pay for this privilege.
7) Many corporations earn what economists call rents. These – like oil money that flows effortlessly into Saudi or Kuwaiti coffers – are earnings that arise not from hard work and real innovation but from accidents of nature or good fortune. Adair Turner recently explained how banks in the City of London are particularly adept at earning rents, such as from exploiting insider knowledge and expertise; from natural oligopolies in market-making and other activities; and from "valueless" trading activity. Economists since Adam Smith – including Turner – have advocated taxing rents especially hard.
8) Corporate tax avoidance, despite hiding behind weasel words such as "tax efficiency", is unproductive and inefficient. When corporate managers pursue tax avoidance they take their eye off what they do best – producing better or cheaper goods or services – and focus instead on engineering transfers of wealth from taxpayers to corporations. Clamp down on it, hard, to make markets more efficient.
9) It matters where company owners and business activities are. Take a US mining company digging gold in Zambia. If Zambia raises corporation taxes, wealth will flow from wealthy US stockholders to ordinary African taxpayers. The investor will stay, because that's where the gold is – and even if it goes, another will take its place. That basic formula works for profitable opportunities in general. Tax corporations, within reason, and they may bluff and bluster – but they will stay.
10) The "Laffer argument" that corporation tax cuts pay for themselves has been thoroughly debunked. Even Greg Mankiw, formerly chairman of George W Bush's Council of Economic Advisers, calls Laffer's adherents "charlatans and cranks".
So we should support the ARC's demand for more funding for tax staff. And we should be screaming about the horrifying proposed reforms to corporation taxes. Stick up for corporation taxes. They are fair and just. And they work.
Update: from Nicholas Shaxson. As I mention on the Treasure Islands blog, my one regret is that I didn’t make the headline “Ten Reasons why we should defend corporation taxes.” That’s because the corporation tax is coming under sustained attack – especially in the UK at the moment. So I've changed the headline of this blog.