Academic journal article Brookings Papers on Economic Activity

Business Tax Burdens and Tax Reform

Academic journal article Brookings Papers on Economic Activity

Business Tax Burdens and Tax Reform

Article excerpt

Business taxes in the United States and elsewhere raise revenue at the cost of discouraging business activity, a tension that lies inescapably at the heart of any business tax policy. A near-universal characteristic of governments is that they desire strong economies, for which they rely on businesses as drivers. Governments also need to finance their expenditures. It is possible to improve a country's economic outcomes without sacrificing business tax revenues by restructuring its business taxes in a revenue-neutral way that improves efficiency by better aligning production incentives with economic costs and returns and that directs tax burdens to where they have the least harmful effects on aggregate economic activity. There is, however, a natural limit to the effectiveness of any such reform strategy, because business taxes by their very nature depress incentives for business formation and expansion.

An alternative and possibly supplementary method of encouraging business activity would be to reduce business taxes and replace the lost revenue with other taxes, while strengthening measures to prevent personal income from being reclassified as tax-favored business income. But quite apart from the difficulty of preventing tax avoidance by reclassifying income, and the unattractiveness of any replacement taxes, such a course would run into another common constraint on democratic policymaking: the political importance of appearing to impose significant tax burdens on businesses. Of course, the notion of actually imposing a tax burden on business is illusory, because the burdens of business taxes are in fact borne by combinations of individuals--business owners, domestic workers and consumers, and possibly foreigners--rather than by business entities per se. And as a method of raising tax revenue, many business taxes are considerably less efficient and equitable than other tax alternatives that are within the power of governments to enact. But some combination of the difficulty of legislative compromise, prevailing uncertainty over who actually bears the burden of business taxes, and the powerful if misleading imagery of taxing large, affluent business organizations creates sufficiently compelling political imperatives for heavy and distortionary business entity taxation to persist in some countries, notably including the United States, despite these taxes' economic consequences.

Much of the international experience differs from that of the United States. In recent decades, most high-income countries other than the United States have significantly lowered their corporate tax rates, and many have dramatically reduced or eliminated their taxation of foreign business income, introduced special tax regimes for income produced by intellectual property, and generally sought to reduce business tax burdens. These efforts are intended to stimulate local economies by encouraging business formation and expansion, and to put countries in strong positions to compete for internationally mobile business activity and income. It is noteworthy that these business tax reductions have been enacted by foreign governments of all political persuasions. Yet the United States continues to tax worldwide business income, has not reduced its statutory corporate tax rate since 1986, and since 1986 has significantly increased the personal income tax rates at which unincorporated businesses and S corporations are taxed. Although the United States has in the meantime introduced some business tax incentives, including rapid write-offs of new business investment and favorable treatment of income from domestic manufacturing, the relatively minor economic significance of these incentives compared with significant foreign tax reductions has made the United States a comparatively much less attractive tax environment for business activity.

There is widespread, and to some degree bipartisan, concern that the 2017 business tax environment adversely affects the U. …

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