In response to the much-ballyhooed news reports about large corporations paying little to no taxes in a given year, Democratic nominee and former Vice President Joe Biden added a proposal for a minimum 15 percent tax on corporate profits to his platform. That may prove politically popular, but as the coronavirus-induced recession reminds us, it’s terrible policymaking.
To begin with, there is no plague of corporations abusing tax “loopholes” to zero out their tax liability. Corporate income taxes do not compare well to personal income taxes, as they are assessed on the basis of corporate profits, not gross receipts. Corporate profits, much more than the average taxpayer’s annual income, can fluctuate wildly from year to year.
For this reason, the tax code allows for deductions for net operating losses to be carried into years other than the one in which the loss technically occurred. Profits and losses frequently don’t coincide neatly with calendar years. For example, goods purchased or produced by a company in December of one year might be sold in January of the next. Loss provisions in the tax code allow them to smooth out liabilities resulting from such activity, as opposed to being stuck with a “heads I win, tails you lose” scenario in which they pay tax on more than their actual profits. This, not nefarious gamesmanship, is why companies like Amazon have at times had low tax liabilities.
Biden’s minimum tax would restrict the value of net operating loss deductions, thereby punishing companies most affected by the pandemic. Businesses that took significant losses this year would be hampered in their recovery efforts by sticking them with higher tax bills, all while undermining the smarter approach of taxing corporate profits over the long-term.
But where net operating loss deductions are necessary to ensure a fair and equitable tax code, other deductions and credits which are intended to encourage growth and recovery would likewise be hamstrung by Biden’s minimum tax.
For example, the tax code allows companies to recover the value of investments they make to grow their business as a means of encouraging more economic production. Investment, after all, is the key to rising employee wages. The 2017 tax reform law changed cost recovery for the better — from a drawn-out, complicated system of depreciation to immediate, full expensing.
This system of full expensing does a better job of encouraging corporate investment, as we saw prior to the onset of the coronavirus. But a minimum tax significantly reduces this incentive to invest. In fact, it can even encourage businesses to put off investments to later years if they have already reduced their tax liability to the minimum in the current year.
The same is true for tax credits for research and development (R&D). Theoretically, these credits encourage R&D spending which benefits the economy writ large even more than it benefits the business investing in it. But should businesses considering R&D spending run up against a minimum tax assessment, the incentive to do is greatly reduced.
In the context of an ongoing economic recovery, hampering growth with populist signalling is beyond foolish. The effect on the budget would be miniscule in the context of trillion-dollar spending packages, raising little more than $20 billion a year over the next ten years. That kind of revenue is paltry compared to the economic harm of capping the benefits of good-policy provisions of the tax code.
A minimum tax is a ham-fisted approach that will threaten the ability of the American economy to recover from this pandemic. Biden would do well to focus his efforts on promoting economic growth rather than on tax hikes that would cut off the nose to spite the face.
