Corporate tax reform: California points the way
The arcane, outdated and inefficient U.S. corporate tax code is costing our country jobs, factories, industries and tens of billions of dollars of badly-needed tax revenue each year.
Our tax system is supposedly based on the idea that U.S. companies should pay taxes on all profits, no matter where they are earned. Yet this is undermined when companies are allowed to “defer” taxes on profits made in other countries until those funds are repatriated to the United States.
This loophole encourages multinational corporations to move production and intellectual property, such as patents and trademarks, out of the country. Or they juggle their books to make it appear that a major portion of their income is made outside the United States. Then they keep it abroad, expecting to persuade legislators to give them “tax holidays” that allow them to repatriate the funds with minimal tax consequences. (The last holiday in 2004 offered a 5.25 percent tax rate). This set of incentives has resulted in up to $2 trillion of profits staying out of the country to defer taxation. This amount grows every year.
Many across the political spectrum are calling for reform. The left emphasizes doing something about the lost revenue and jobs. The right wants rate reductions. What if there is one reform that gives the left and the right what they want, while also improving our international competitiveness?
California’s “sales-based” corporate income tax could be a model for this reform. Passed by 61 percent of voters in a November 2012 state referendum, Proposition 39 requires a “single sales factor” corporate income tax. Corporate tax collections are predicted to increase by about $700 million per year.
Prop 39 taxes every corporation that sells goods and services in the state — treating U.S. and foreign corporations the same. The state taxes a portion of each corporation’s U.S. earnings based on a simple percentage: total sales in California divided by total U.S. domestic sales. By basing the tax calculation on in-state sales, businesses can no longer use various schemes to make it appear that profits were earned out of state.
Calculating what every company owes with the single sales factor is simple and addresses the “what if’s” listed above. This is a big improvement over the devil’s bargain that allowed corporations to choose how they were taxed.
The U.S. tax system now requires authorities to keep track of where American companies run their operations and where they make their profits. Companies are taxed more if they operate in the United States — which encourages many to shift assets abroad. In addition, Washington lets companies defer taxes on profits from business outside the country, but allows them to write off expenses immediately.
If our federal tax code was amended along the lines of California’s Prop 39, we could stop this absurd money chase. Every multinational corporation (foreign and domestic) selling products and services in the United States would still want to sell in the world’s biggest consumer market. They would also continue to release accurate information about –domestic sales because they would want to reward shareholders with the returns from selling in the U.S. market. We would simply tax the percentage of their global profits represented by their U.S. sales.
Adapting the California tax system for the nation would make U.S. businesses competitive in global markets, without rewarding companies for moving production and assets abroad. It would also help smaller domestic firms compete with large multinationals that now pay little or no corporate taxes.
By no longer trying to tax companies based on whether they have U.S. operations and employees, we could eliminate some of the disincentives that our current tax system imposes on domestic manufacturing and employment. Jobs, factories and profit centers could return here. And we would bring in more tax revenue from foreign companies that sell in the United States, but now get a free ride.
By taxing foreign companies on the Toyotas or TVs they sell in the United States, a sales-based system would bring in more money from a broader base. Judging by Prop 39’s more than $1 billion in additional tax revenues, it is logical to conclude that increased revenues from a similar national system could make it possible to lower the overall corporate rate while still raising more funds for reducing the deficit and investing in the economy — giving liberals and conservatives something to cheer about.
Adapting California’s sales-based system for the nation would be a win for tax reformers on the left and right. Conservatives would get to limit taxes to profits on domestic sales instead of worldwide sales, and possibly at a lower rate. Liberals, though they would have to accept not taxing worldwide income, would not only see increased federal revenues, but could take satisfaction from forcing today’s notorious tax avoiders to pay their fair and proportionate share of corporate taxes.
It would also be a win for all Americans who want more revenue to invest in the country’s future, a win for corporations that want a simpler, less burdensome system to help make them more competitive in the global marketplace and a win for U.S. workers.
Even the companies that take advantage of today’s failing system would ultimately win, by sharing in the success of a stronger economy.
PHOTO (TOP): California Governor Jerry Brown gestures as he unveils his proposed 2014-15 state budget in Sacramento, California, January 9, 2014. REUTERS/Max Whittaker
PHOTO (INSERT 1): The five colors of the new iPhone 5C are seen after Apple Inc.’s media event in Cupertino, California, September 10, 2013. REUTERS/Stephen Lam
PHOTO (INSERT 2):A customer looks over Toyota automobiles at a dealership in Daly City, California, February 2, 2010. REUTERS/Robert Galbraith