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Samizdata, derived from Samizdat /n. - a system of clandestine publication of banned literature in the USSR [Russ.,= self-publishing house]

Samizdata quote of the day

“Nobody pretends that hiking these taxes means “ordinary people” will have less tax to pay. But most folk still believe that companies can be made to pay taxes, shifting the burden away from the rest of us. I have news for you: they can’t. Corporations are artificial legal constructs: only people can ever pay taxes. The burden of taxes supposedly levied on companies is borne either by investors (through reduced returns on their capital), workers (via lower wages) or consumers (as a result of higher prices). Targeting firms is just a way of stealthily taxing these people, ensuring nobody really understands who is picking up the bill. It is because we’ve forgotten about these basic principles that we’ve ended up with a dysfunctional and incomprehensible tax system, as exemplified by the row over the practices of Starbucks, Amazon, Google and others.”

Allister Heath. (Non-UK residents who don’t subscribe may not be able to see the full Telegraph article, but it seems that quite a lot can, so I am putting this up with a disclaimer.)

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19 comments to Samizdata quote of the day

  • Tedd

    I’m glad to see this being discussed. It has seemed to me for decades that corporate taxes make no sense. They must be one of the most egregious examples of sentiment overruling reason.

  • Hugo Neal

    Thank you for the link to the Telegraph.

    Probably takes a real libertarian to explain why we should be objecting so vehemently to somebody erecting a paywall around the internet property they’ve created.

    Perhaps somebody here could help?

  • Perhaps somebody here could help?

    Sure, allow me as you seem a bit confused. Read this.

    Allow me to draw your attention to this bit:

    As a significant proportion of Samizdata’s readership is overseas, and as there are many alternative sources of news on-line…

    So rather than ‘objecting’, I am saying it does not really suit our needs now as their news is largely fungible and can be found elsewhere. So why inconvenience our readers?

  • From the perspective of competitiveness, it seems as solely UK operated businesses versus multinationals are being penalized as the UK only businesses are subjected to the full weight of corporation tax whereas for multinationals it is optional to the extent of how much they attribute to royalty, IP, interest payments, etc in ‘tax havens’.

    When you crucify your own people but let foreigners slide you are creating a situation where tension is guaranteed.

  • PersonFromPorlock

    Here’s a thought: if a business doesn’t pay taxes but only collects them, under compulsion, for the government, couldn’t it (under US law) sue for compensation for the expenses it incurs on the government’s behalf? In effect, the government is ‘taking’ a service from the business.

    I suspect the answer is ‘not bloody likely’, but the doubletalk involved might be amusing.

  • Regional

    Most of you gentleman and ladies would know about the Laffer Curve(Link)

  • Paul Marks

    I have already commented on this – at the site.

    But I will repeat the comment here.

    Those companies who have followed the struture of Corporation Tax and loaded up on debt (because interest payments can be deducted from Corporation Tax), using all their profits to pay shareholders, and the debt to pay for investment….

    Well these companies are going to mostly go bankrupt – in the economic decline of 2013 and 2014.

    Normal investment should be paid for out of profits – only exceptional investments should be financed by debt.

    Corporation tax has encouraged the normal replacement of capital (factory machines and so on) to be financed by debt. Debt that will drag these companies down to bankruptcy.

    This is one reason why it is a such a vile tax.

  • Stuff like “companies pay taxes” is exactly why I keep banging on about semantics.

  • Bruce Hoult

    Multinationals can easily move the profits to wherever they want by adjusting the internal prices the different bits charge each other. That will of course be to the place with the lowest taxes.

    Re the Laffer curve: it should be immediately self-evident that both a zero tax rate and a 100% tax rate generate zero revenue. If there is a point in between where positive revenue is collected then continuity and simple calculus say that there must be a maximum such point. Which means that either higher or lower tax rates collect less.

    One can argue over the exact shape of the curve, and the position of the maximum, and whether current rates are above or below it, but that the curve exists is logically unimpeachable.

  • Bruce Hoult

    p.s. I can see the Telegraph article in New Zealand

  • Laird

    The problem of the “incidence” (the technical term for identifying those who bear the actual burden) of a corporate tax is not a new one (I wrote a thesis on it in law school over 30 years ago, and the idea was hardly original with me), but it never seems to penetrate the skulls of the electorate. It is well known to economists, but they don’t speak to the masses, and it is studiously ignored by politicians because it serves their purposes to disingenuously disguise the real tax burden. For this reason Heath provides a real public service by writing easy-to-understand articles like this in the popular press. The concept needs to be repeated, loudly and often.

    A taxing system premised on deceit must necessarily become hugely economically distortive; the specific manifestations of that distortion (i.e., a bias toward debt, some forms of investment being unduly favored over others, an unhealthy focus on loopholes and avoidance) and the resulting inequities (disparate treatment of functionally identical companies, double- and triple-taxation, etc.) are essentially derivative, second-order problems. I have quibbles with the alternate structure Heath proposes, but not with his fundamental premise.

  • Okay, I go into a shop of J Random Coffee Company (JRCC) and spend £3 on a cup of coffee. 20% of that cost immediately goes to the government in the form of VAT. Of the remainder, a large portion goes on JRCC’s non-wage costs: rent, coffee beans and other ingredients, payment of debt, etc. This is tax deductible for JRCC, but it will be taxable for whoever JRCC is buying the stuff from. (If the seller is in another country, then it may well be that tax is paid abroad rather than locally). Another large portion goes on wage costs, as Starbucks is a very labour intensive business that employs a lot of people. Of these labour costs, the company calculates the income tax payable, and sends a cheque to the government, and then pays the rest of the wages to the employees. What is left is profit, which belongs to shareholders. Assuming there is some, JRCC calculates the “corporate tax” payable on this before paying the rest to the shareholders. (For purposes of simplicity, let’s assume that JRCC pays all its net profits to shareholders. Failing to make this assumption doesn’t affect the argument, but adds superflous complexity).

    There is absolutely no difference between these two taxes. One is the tax on the employees’ share of the gross profit, and the other this the tax on the shareholders’ share. We call one “Corporate tax” and the other “Income tax”, but they are exactly the same thing. You can see them as taxes on the company’s economic activity, or you can see them as taxes on individuals’ income, but you must see them both the same way. The idea that corporate tax is a tax on “The company” and employee income tax is not, so that somehow a company is “not paying any tax” if it pays no corporate tax is just ridiculous. (Of course, there is all that VAT as well, which is actually being paid by customers, and this is one other tax on the company’s economic activity).

    We saw another instance of this during Mitt Romney’s presidential campaign. There were claims that he paid a very low tax rate on his income. The reason for this was that most of his income is dividends from investment, and tax on this is paid at a low rate. This was never really refuted loudly, and it just sort of faded out into “Oh, this is what rich people do. You don’t really expect they pay the same taxes as we do? You would do the same if you were that rich”. In actual fact, if you included the corporate taxes paid by the companies that Romney’s investments were in as well as the lower rate income taxes on the dividends he received, his total tax rate was quite high. But nobody really wanted to make this argument, or possibly considering the biases of the media, it just wasn’t heard.

  • And really, this is missing the wood for the trees anyway. You don’t make a “contribution to society” when you pay taxes, as these annoying people all claim. It is the actual economic activity that makes a contribution to society. The people who buy coffee and have a nice place to sit down, this is good. The people who have jobs thanks to you, this is good. The money paid to the governent: this largely might as well just be flushed down to the toilet.

  • Actually, flushing it down the toilet might reduce the money supply slightly, which would be good. So it would probably be better flushing it down the toilet.

  • PersonFromPorlock

    Actually, flushing it down the toilet might reduce the money supply slightly, which would be good. So it would probably be better flushing it down the toilet.

    Posted by Michael Jennings at November 15, 2012 11:53 AM

    An interesting concept. Printed using hypo-allergenic ink, a quantitatively-eased dollar would still have some intrinsic value despite runaway inflation. Pity the Republicans don’t have a sense of humor. it’d be a great proposal.

  • Laird

    Michael, leaving aside the foolishness of your initial premise (there’s no other word to describe paying £3 for a cup of coffee!), you clearly don’t understand the central point here.

    A company receives revenues from the sale of its products or services; it incurs expenses in the conduct of its operations (much of that in the form of wages to its employees); and in the end it distributes the residue (“profits”) to its owners. When you undertake to tax those profits, one of three things happens. The owners, unhappy with their reduced return, seek to increase gross revenues (raise prices) and/or reduce costs (lower wages). To the extent its customers have much bargaining power (purchasing from competitors, switching to alternative substitute products, etc.) they can either resist the price increase or accept it. To the extent the employees have bargaining power they will resist the wage reduction (go on strike, take another job, etc.) or accept it. There is an eternal tension among these three “constituencies”, but the precise allocation of that tax is among them is not only unknown but is inherently unknowable. It is probably not borne in full by any one of those groups, but rather is distributed among them in some fashion which differs among industries and also varies over time. In the end, prices go up, wages go down, and returns on capital are reduced to cover the tax. This is the crux of the issue: in the end, the burden of the tax is, and must be, borne by individuals, not by a fictional entity called a corporation (which is merely a conduit for cash flows). But simply slapping an income tax on business entities is both economically distortive (it inevitably drives businesses to take tax-minimization actions which are not economically optimal absent the tax, and which are thus a net loss to society) and inherently unfair (you don’t, and cannot, know with any certainty which of those groups will truly bear the burden, so you might actually be taxing one group disproportionately relative to the others; moreover that unfairness varies from industry to industry).

    You want to think of the corporate income tax as merely a sort of withholding mechanism, having the entity calculate and remit the tax on behalf of the owners. But as I showed above it’s not that simple, becuase it isn’t (necessarily) a tax on the owners. Moreover, even if it were that simple it still fails to take account of the different economic circumstances of the various individual shareholders, which may be taxed at vastly different marginal rates. A corporate income tax effectively taxes them all at the same rate, which may be far too high for some and far too low for others. (And it doesn’t even consider the possibility that some shareholders may be entirely tax-exempt, for a variety of reasons.) They’re all strapped to the same Procrustean bed of taxation.

    Your example of Mitt Romney’s taxes neatly illustrates your fundamental misunderstanding of the issue. His effective rate wasn’t low because he received dividend income; dividends are taxed at ordinary income rates. It was because much of it was capital gains, long-term appreciation in the value of his stock, which is taxed at a lower rate. But that in itself is a half-hearted attempt to minimize the notorious “double taxation” problem: a company pays full taxes on its income, then its shareholders pay full taxes again on the leftovers which it distributes to them as dividends. As a result, many companies minimize their dividends and encourage the shareholders to sell their shares and take the “pent-up” profits in the form of capital gains, to minimize the double tax. And they also have a strong bias toward debt, rather than equity financing, because interest on the debt is deductible whereas dividends are not. This is a prime example of the serious economic distortions inevitably created by the corporate income tax: companies tend to be highly leveraged, which greatly increases risk.

    The corporate income tax is inefficient, economically distortive, inherently unfair, opaque and fundamentally dishonest. Which, I suppose, is what makes it a so attractive to politicians; it’s a feature, not a bug. But as a vehicle for promoting a healthy, growing economy, and thus maximizing tax revenues, it’s fundamentally flawed.

  • Snag

    A well-constructed and highly instructive comment, Laird.

  • Kevin B

    Yes, Laird’s comment describes the situation well, but it is worth pointing out that under pressure from the shareholders, (who may include your insurance company, pension fund or ISA), that as the share price dips, wages may not go down, but wage bills will.

    Thus, expansion plans will slow and outlets that would have opened won’t and outlets that are not yet making profits will close, depriving the area of all those business rents and turning tax payers into job-seekers. In addition, customers will resist higher prices and buy fewer items so staff will be reduced.

    And so a little bit of wealth that would have been created, isn’t.

  • Laird

    Absolutely, Kevion B; that’s an aspect of the “economic inefficiency” I was talking about. There’s a lot more to the case that I didn’t want to get into simply because I thought my post was already quite long enough!