Corporate income tax rates vs corporate income tax revenues

Not the way to go to replenish public coffers

Duanjie Chen and Jack Mintz have released their latest Global Tax Competitive Ranking, and iPolitics picks up on on a point with which more people should be familiar:

If the Conservatives hadn’t touched the federal corporate tax rate when they took office in 2006 – if they’d kept it at 21 per cent instead of lowering it to 15 per cent – government revenues would be $13 billion higher, the Canadian Labour Congress argued in a paper last January.

“Each one percentage point cut to the corporate income tax rate costs the federal government about $2 billion in annual revenues,” wrote the authors, one of whom was CLC chief economist Andrew Jackson…

But are they right?

No, argues a new paper written by tax expert Jack Mintz and Duanjie Chen, and released by the University of Calgary’s School of Public Policy on Tuesday.

Chen and Mintz are quite right. The CLC estimate is what you get if you assume that the only behavioural response to an increase in corporate tax rates is that firms’ CFOs will grit their teeth and put bigger numbers on the cheques they send to the Receiver-General. But in a world in which multinationals file 57,000-page tax returns, one can only marvel at the faith in human nature among those who would make policy based on such a belief. People respond to incentives, and if you make it more costly to report profits in Canada, firms will do less of it. Partly because they will make less profits as investments decline, partly because firms will shift income away from Canada.

The short-run effect of a corporate tax increase in revenues is surprisingly small (Chen and Mintz provide the references; see here for how they apply to Canada), and a good estimate for the long-run effect is zero. Here is a graph of CIT rates and CIT revenues for OECD countries over the last 30 years (click on the graph to open a larger version in another window):

If you’re a government looking to generate a noticeable increase in revenues, you may as well forget about corporate taxes.

 




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Corporate income tax rates vs corporate income tax revenues

  1. As far as I can tell, there are three
    distinct arguments for lower corporate income taxes that Jack Mintz et al
    conflate over time, which makes it confusing. Allow me to try to separate them:

    1) 1)Lower corporate taxes
    encourages investment in productivity enhancing equipment

    2) 2)Lower corporate taxes
    encourages more foreign direct investment

    3)Lower corporate taxes
    encourages companies to report profits in the lowest tax jurisdiction (the
    point Mintz is making in this study).

    Is there a net cost/benefit for a given
    country, at a given time, in further reducing CIT through either items 1, 2
    and/or 3? ie are you taking more from
    Peter to pay Paul?

    It depends on the nature of the businesses affected,
    the size of the tax cut and where you are starting from, and then relative to
    other relevant countries.

    I could say more. I won’t.

    • Ireland went all-in on big corporate tax cuts; ended up one of the bankrupt eurozone PIIGS.

      Here’s reason #4: it’s self-serving economic theory that puts free money directly in the pockets of corporate executives and shareholders. It’s no different than socialist ideology like raising wages across the board by government decree. The reason these kind of doctrinaire policies fail is because they were never really designed to work in the first place.

      • Don’t interpret my comment entry as not agreeing with any of the three premises. It’s just that they need to be looked at in more detail. It depends…

        • Sorry, that wasn’t my intention. I was just making a remark about the free-market position on corporate tax cuts that you broke down into its main arguments.

          • Often, being economical with comments is more effective than the other end of the spectrum.

  2. So these corporations were at one point pursuing what they saw as their best tax option when the corporate rate was 21%, but now 21% is a “tax hike” which produces a different tax strategy at a rate of 21%, all other things being equal? Odd.

  3. Are you saying that we lost 13 billion in revenue with the tax cuts and that we can’t make that 13 billion back by raising taxes again? Or that the nominal loss from tax cuts was less than the estimated loss of 13 billion?

    • The second part. The loss is less than the estimated $13bn.

    • Neither…

  4. Interesting how right-wing economists promised corporate tax cuts would “create jobs,” increase productivity, boost competitiveness and bolster GDP growth. Their argument was that corporations would take the savings and invest the money in equipment and R&D.

    But what was the end result of cutting corpate taxes by 50% since the year 2000? Productivity has fallen in relation to other countries (now #17 OECD); competitiveness has fallen to #14 (Global Competitiveness Index); hundreds of thousands of good-paying manufacturing jobs have disappeared; and the 2000s was the worst decade for GDP growth since the 1930s (the 2010s is shaping up to be even worse.)

    Not only that, Carney was chiding corporations last week for hoarding cash at a time when a high dollar offers them a discount on foreign equipment purchases. Canada ranks #16 OECD in private R&D investment.

    So it’s pretty clear this very expensive gamble (the Harper Conservatives bragged in their 2009 budget they would save corporations $14B/yr) has been an abject failure.

    BTW, this year the Harper Government is gutting spending, including essential services, to save $5B/yr (to put things in perspective…)

  5. The Harper Conservatives bragged in their 2009 budget they would save corportions $14B/yr with their tax cuts. Now right wing economists are saying if these tax cuts were reversed the government would not recoup any of the loss revenues. That sounds like Enron-like creative accounting to me (self-serving to be sure.)

    Free-market ideologues are always saying “tax cuts pay for themselves” and raising taxes decreases tax revenues. (Which is the same as claiming gravity causes one to float up into the sky.) Is it any surprise the US and Ireland have bankrupted themselves (100% debt/GDP) with these “voodoo economics” — borrowing money to fund reckless tax cuts?

    BTW, from 1997 to 2004, corporate tax revenues ranged from 3.1% GDP to 4.3%. By 2011, they had dropped to 1.9%. 1 point of GDP is about $17B in 2011.

    There’s also a big difference in the corporate tax rate and the effective rate. When the rate was 29%, the effective tax rate was between 18-23% between 1995 and 2000.

  6. I think when it comes to business taxes, businesses should be divided into 3: ones that extract our resources, ones that profit from our markets and ones that sell valued-added exports on the world market.

    Cutting taxes for the first two is useless. These businesses are only here as long as the resources and markets are here. They won’t create a single job they don’t need to, they’ll just pocket the savings (a lot of it flowing out of the country.)

    But cutting taxes for exporters can make Canadian businesses more competitive leading to business expansion. With the entire world as a market the potential is limitless. An innovation-based economy also creates the most wealth and the best business and job opportunities.

    So we should reverse tax cuts for the first two kinds of businesses and lower them for the third. Right-wing unfocused corporate tax cuts have utterly failed to get results. The NDP’s job-creation tax cuts are too specific to act as an economy-shaping business incentive. We need smarter policy in the middle that gets the best bang for our tax dollars.

  7. This comment was deleted.

    • And Batman (Gordon) is usually supported by Robin (Moffatt).
      No matter. They are rapidly becoming Economists to the Media Stars.
      Must be something they’re saying.

      • We all know *Gordon* is the sidekick. Please be respectful.

  8. I usually agree with Gordon, but I think something’s missing this time around.
    I’ve heard this discussion in various places enough times to know that things are being left out.
    Seems to me this discussion is often very myopic, using only a few hand-chosen and intentionally limited factors to make the argument for lower taxes while disregarding many of the intrinsic reasons businesses would be in a market in the first place.
    A first world economy should not be competing with second or third world countries in terms of tax rates for example. They also shouldn’t be competing with bankrupt or heavily indebted nations either, and one must certainly be using the effective tax rates to compare with while doing all this.
    Canada has a highly educated and healthy populace with a broad language base from across the wrold, maintains relatively cheap energy prices, has access to all manner of resources, has exceptional infrastructure across the board generally speaking, bears no political or geographic risk relative to just about any other country you could mention and is situated well relative to other markets in various and myriad ways.
    Our taxes should be set to reflect this reality.
    I suppose in the end what I’m suggesting is that “competitive” is a relative measure.
    Sell yourself cheap, and that’s what you’ll be known for. LOL

    • So Canada is a bubble. Got ya. Why worry about what other people are charging when we’re awesome! Why would anyone go set up their business elsewhere, why should these business try to make more money when they could make less in Canada?! I mean come on, it’s CANADA!
      You have a lot to learn, about the NHL CBA and about running a business.

  9. I cannot believe that someone who is paid to release papers can actually believe that lowering corporate income tax does something other than lowering federal government revenues… Who pays these guys? Who trained them?!

    • That should read does NOTHING other than

  10. So … is anyone going to actually comment on the substance of the post? Or are we all okay with simply concluding that I’m a bad person for writing it?

    • Ask Macleans for some equal space. I’ll rebut.

    • I don’t think your interpretation of the numbers portrays the reality:

      a) The corporate tax rate has been going down in Canada over the past 25 years. The greatest fluctuation has obviously been in corporate profits. These numbers don’t tell what the tax revenues would be if the rate remained higher. They don’t give any real information about what would happen if the rate was reversed.

      b) There’s a big difference between the listed tax rate and the effective tax rate. When we had a 29% federal rate, the effective rate went as low as 18%. Mintz used the “low rate, broad base” rhetoric to sell CIT cuts, but Canada has not broadened its corporate tax base.

      c) The graph suggests Norway pays far lower corporate taxes and perhaps receives higher revenues as a result. It doesn’t. According to the 2008 KPMG Competitive Alternatives report — before Harper’s 6 point corporate tax cuts went into effect — Canada ranked #2 of 10 major economies in “Effective Combined Corporate Income Tax Rate” or 24% (for manufacturing; #3 corporate services of 29.6%.)

      d) Harper himself boasted in his 2009 budget his tax cuts would save corporations $14B/yr. But this very expensive policy is just more Reaganomics that doesn’t get real-world results and is therefore unjustifiable. During 2000 – 2011 as corporate taxes were continuously cut: a) productivity fell; b) competitiveness fell; c) corporate profits fell (%GDP); d) CIT revenues fell (%GDP); e) private investment in R&D fell; f) corporations pocketed the tax cuts instead of investing the money; g) GDP growth declined; h) it did absolutely nothing in terms of job creation.

      If the NDP had engaged in a “socialist” policy that cost the same and got the same miserable results, right-wing commentators and economists would be up in arms.

    • I think you seriously need to research your assumptive point that people respond to rewards. People also respond to being beaten and whipped. And as the Wikipedia article points out – and if [b[I[/b] can find a simple refutation in a place like Wikipedia of all places, a refutation backed up with searchable citations – that rewards don’t always work, then someone of your professional calibre ought to be able to do much better and had better stop feeding himself disprovable assumptions about basic things, then running to conclusions across a pit of jellied cornstarch.

      • That’s why people compare what theory predicts with the data. And the data are pretty clear on this point: firms do adjust their behaviour to reduce the tax base on which the higher tax rate is applied. In the long run, the net effect is a wash. You don’t even need to apply very sophisticated methods: look at the data plot. There simply isn’t much of a relationship between CIT rates and CIT revenues.

    • I’m okay with that, but your substance, as demonstrated by that graph, really doesn’t tell us much, because it gives corporate tax revenues as a percent of GDP.

      Unless you’re saying government budgets moves in lockstep with the GDP, this tells us nothing about whether governments make more or less with higher corporate taxes. A meaningful graph would have been corporate tax revenues as a percentage of government income.

      • That would be worse. For example, the GST cut would show up as a jump in the CIT share of revenues..

        • Which would be more appropriate than tying it to the GDP, which has precious little direct connection to government budgets at all.

          • Expenditures, perhaps not. But revenues, most definitely. And that’s what we’re talking about here.

          • Make up your mind. If you’re claiming the GDP has a direct connection to budgetary revenues, than your point about the GST cut skewing the results is nonsensical. On the other hand, if you’re arguing that you don’t like how if they cut the GST it makes the CIT percentage go up, then you’re saying the GDP isn’t what matters for these revenues.

            GDP has, at best, an indirect connection because changes in the GDP are always filtered through tax policy.

  11. A basic analysis with arithmetic of Mr. Gordon, Mr. Chen and Mr. Mitnz’s position shows the validity of your argument.

    Assume, one is talking talking about a 2% change in the corporate income tax rate (i.e. reduction from 12 to 10 percent). Corporate income tax rates are charged on the net profit of the corporation. Assume, for arguments sake, that the average profit margin for corporation is 10% of gross revenues. Therefore, the basis of your argument is 2% of 10% is the basis of which significant decisions and allocations of investment would be based.

    As 2% = .02 in decimal form and 10% = .1 in decimal form; therefore
    .02 multiplied by .1 = 0 .002.
    Or to put into fraction form: 2/1,000 = 1/500

    One would have to imagine that a change of 1/500th of gross revenue (far less than the round off error from most sets of corporate financial statements) will effect or influence the decision making process of large corporate investments.

    As tax rates are determined on net profit, corporate tax rate cuts are the most beneficial to companies that are already the largest and most profitable in absolute and percentage terms. Corporate tax rate cuts are thus bribes to the largest and the most profitable corporations to become larger and even more profitable; while being of little or no benefit for the smaller, medium and lesser profitable corporations that would actually benefit from well thought out tax incentives on real investments in productive capacity.

    Or if one gets really aggressive, a 10% reduction in a corporate income tax rates and keeping the same 10% profit on gross revenues, would mean the change would be .01 or 1% of gross revenues. On the basis of amount of gross revenue that is smaller change than round off error, the right winger would have us believe that untold amount of manna from corporate heaven would ensue.

    Is that realistic is any way? Especially in world where China undervalues its currency by 50%, wages are below a quarter an hour, and its mentality is that of a mercantilist trade predator – not trade partner. For that matter, albeit in a less brutal manner, that is economic development approach taken by most South-East Asian countries.
    To give a general tax rate reduction to corporations, whether they invest or not, on the hope they might perhaps, possibly, hopefully, conceivably, invest eventually is a denial of basic human nature. Rewarding someone or something for doing something, whether they do it or not, is a kind of bizarre concept and incomprehensible logic. There are too numerous psychological studies that show, the opposite behaviour is more likely to occur. It is like rewarding a fat kid with candy for his commitment for being on a diet that has made him 20 pounds heavier.

  12. Where goes
    the border between corporat
    tax
    planning and tax fraud, or is it constantly moving as laws are
    changing?

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