While tax policy has long been used as a political tool, the basic purpose of taxation is to raise funds for the government. Ideally, taxes should accomplish this goal in as efficient and equitable a manner as possible. Tax codes at both the federal and state levels have long since diverged from this ideal, becoming bloated documents aimed at encouraging us to drive certain cars, have certain occupations, and make a myriad of other choices having nothing to do with government revenue. But for all their flaws, personal income tax codes in the US are simple and efficient in comparison with corporate tax codes.
Corporate income taxes are the only taxes in the US levied on a vague notion of “income”: the difference between revenues and all business-related expenditure. Personal income taxes are in effect revenue taxes, as they do not shrink for the person who spends every dime to get by, nor do they grow for the person who saves 20% of their income. Property and sales taxes likewise do not take into account the payor’s ability to pay; indeed, property taxes occasionally push property owners into bankruptcy. Only corporate income taxes attempt to tax based on a company’s ability to pay, as measured by corporate profits.
Unfortunately, determining a corporation’s profits is complex at best, and can be a subjective matter at worst as companies use myriad techniques to reduce their taxable profits. Small, individually-owned companies often commingle business and personal expenses, reducing taxable profits while gaining personal benefit. In the area of automobile leasing this is so common that accountants typically tell their small business clients to deduct 90% of a personal vehicle lease against their business revenue, as this is the “generally accepted” deduction for such an expense.
Large public companies also have been known to deduct expenses incurred for the benefit of company executives. Corporations use foreign subsidiaries to avoid taxes by paying those subsidiaries for rights to trademarks or other services, resulting in an expense for US accounting purposes. Public corporations also legally keep two separate sets of accounting books: one for the SEC and investors, which attempts to show maximum profitability, and another for the IRS which shows minimum profitability. The complexity of this system imposes a significant burden on both companies and the IRS, as both sides engage in a complex accounting dance to accurately determine profitability.
Why not tax corporations just as the government taxes individuals, by taxing their revenue and not their profit? Revenue is a much simpler number to establish and verify than profit, since no consideration of expenses is involved. The accounting burden for both companies and revenue collection agencies would be greatly reduced, decreasing the drag of compliance on the economy. Gross-receipts taxes, as they are often called, are effectively used in several states including Washington and Delaware. Since gross-receipts taxes are broad-based, US corporate tax rates of around 35% could be replaced by a revenue-neutral revenue tax at a rate of around 1%. For many profitable companies a revenue tax would result in a significant tax reduction, while millions of small businesses would now have to make a small 1% contribution to tax revenue for the first time.
Critics complain that revenue taxes hurt companies like wholesalers that have very low margins – but even commodity intermediaries aim to earn 2-3% in net margins, making the burden of a 1% revenue tax similar to their current income tax burden. And no one seems to complain that a profitless corporation can’t afford to pay its property or sales taxes! A complete migration of corporate taxation to gross-receipts taxation might seem close to impossible at the federal level, with all the winners and losers it would create. But such a system would deliver huge benefits by lowering compliance and audit costs while distributing taxation more fairly across all corporations.