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A Case for Higher Corporate Tax Rates

Posted on June 22, 2020
[Editor's Note:

This article originally appeared in the June 22, 2020, issue of Tax Notes Federal.

Zachary Liscow
Zachary Liscow
Edward Fox
Edward Fox

Edward Fox is an assistant professor of law at the University of Michigan Law School, and Zachary Liscow is an associate professor of law at Yale Law School. They thank Anne Alstott, Reuven S. Avi-Yonah, Ian Ayres, Jake Brooks, Wei Cui, Brian Galle, Itai Grinberg, Jim Hines, Edward D. Kleinbard, Yair Listokin, David Schleicher, Daniel N. Shaviro, William Woolston, and participants at the Loyola Tax Policy Colloquium, Georgetown Tax Policy Colloquium, and National Tax Association annual meetings for helpful comments, and Mia Dana and Rebecca Lewis for excellent research assistance.

In this report, Fox and Liscow argue that while conventional wisdom holds that we should lower taxes on corporations because of international competition, two recent changes militate in favor of higher corporate taxes, which would close the deficit, fund social programs, and reduce inequality. First, changes in tax law have increasingly targeted the corporate tax at economic “rents,” the supersized returns that businesses receive when they enjoy advantages like market power. Because taxing rents is progressive and does little to harm economic activity, a higher rate is justified. Second, shifts in the American economy have allowed companies to earn more economic rents, increasing the revenue a tax on rents could raise — and increasing the appeal of the tax as a deterrent to harmful behavior like lobbying government officials to get or maintain market power. Although the authors cannot say exactly what the corporate rate should be, principally because the international dimension remains so important, they offer reasons to favor a higher rate and describe reforms that could help ease the adoption of higher, but still efficient, taxes on corporate returns. Fox and Liscow suggest that, at a minimum, proponents of lower corporate tax rates present an incomplete picture and that the “lower corporate tax rates” conclusion is a non-obvious one.

Copyright 2020 Edward Fox and Zachary Liscow.
All rights reserved.

I. Introduction

Many commentators have claimed that increased international tax competition means that the United States should have lower corporate tax rates.1 As a result, while tax scholars were broadly critical of the Tax Cut and Jobs Act, most were sympathetic to the perceived need to lower the corporate tax rate, reflected in the TCJA’s reduction of the rate from 35 percent to 21 percent.2 The preponderance of voices in favor of lower rates is likely compounded by skepticism among many that a corporate-level tax makes any sense at all.3

We argue, by contrast, that too little attention has been paid to factors that favor higher rather than lower rates. Some of the reasons favoring higher rates are long-standing, but others, which we focus on here, result from structural changes in the American economy and the corporate tax itself over recent decades.

Our case for higher corporate tax rates goes as follows: Entity-level taxes,4 like the corporate tax, are well suited to target the supersized returns that accrue to capital owners when their companies enjoy market power or other non-reproducible advantages. Hitting these supernormal returns — usually known as “economic rents” — is a sweet spot because taxing them is likely to be both economically efficient5 and distributionally progressive.

Two big changes mean that corporate taxes increasingly target rents, militating in favor of higher rates. First, shifts in the legal structure of the corporate tax, alongside subtler changes in the composition of American business investment over the past few decades, have focused the existing corporate tax on economic rents. In particular, the U.S. corporate tax has come over time to resemble a cash flow tax, under which all business investments can be immediately deducted from taxable income, in contrast to the historical norm in which investments could be deducted only gradually over time.6 Immediate deductions are appealing to businesses because they would rather reduce their taxes today than in the future. These changes have been criticized as corporate giveaways by progressives,7 but we instead celebrate them for making the tax more efficient and thereby allowing higher rates.

In particular, economic theory implies that a cash flow tax raises considerable revenue by taxing economic rents at the statutory rate without discouraging efficient investments.8 The reason is that, for investments without rents, the subsidy implicit in deductions at the time of investment essentially nets out with the taxes on income from the investment, resulting in a net tax rate of zero. Because the tax rate is zero, investors will make all the investments in projects without rents that they would make if there were no taxes. This in turn means that investors will still make even more appealing investments — those with rents — even though the government collects substantial tax revenue from those rents. Modest additional reforms could conform the corporate tax even more closely to a cash flow tax. These reforms include providing a more generous treatment of tax losses as well as structures and inventory, while ending the forgiving treatment of interest under the current code.9 These changes would further sharpen the corporate tax’s focus on economic rents and make higher rates less distortive.

Second, a variety of empirical work suggests that economic rents play an increasing role in the American economy, partly because of growing market power.10 The rise in economic rents is therefore another reason to look again at the potential of the corporate tax. Properly structured, this tax can both efficiently raise revenue and combat behaviors — like lobbying governments to get or maintain economic dominance — that can give rise to rents in the first place and cause their own ill effects.

These arguments help answer a major question in taxation — why we should have corporate-level taxes (or, more precisely, taxes on business entities, to which these arguments equally apply11) at all, beyond administrative convenience.12 These taxes make it feasible to tax economic rents accruing to capital at higher rates than the ordinary returns to capital (or labor income).13 As a matter of both equity and efficiency, this entity-level tax is likely to be desirable. Taxing rents likely distorts economic activity less than taxing labor income or the ordinary returns to capital, and thus efficiency counsels taxing rents at higher rates. Likewise, taxing rents likely has very progressive distributional effects.

Moreover, a corporate tax could raise significant additional revenue with higher rates. We estimate below that the government would be levying from a huge tax base — at least $900 billion per year — even after further focusing the tax on rents.

Our argument for higher rates is not a slam-dunk, however. After we make our prima facie case for higher rates, we review the arguments favoring lower rates and discuss problems with cash flow taxation in the real world, as well as how these problems might be ameliorated. The most prominent factor favoring lower rates is the international mobility of profits, business activity, and corporate residency. However, given the brief length of this report, we mostly put this essential issue to the side, because it has been extensively discussed elsewhere.14 Instead, our argument is an important, but partial, counterbalance to the debate, which has overwhelmingly focused on international mobility. And, in considering the relative importance of domestic considerations, it is important to keep in mind how much revenue the corporate tax can raise despite these international concerns. Even with international mobility and a 35 percent rate that exceeded that of much of the world, the U.S. corporate tax still raised more than $300 billion annually before the TCJA came into effect.15

Although we don’t present an unblemished case for higher rates, the question of the right corporate tax rate remains critically important. This is especially true given the widespread desire among Democrats to repeal the TCJA; any such repeal requires taking a position on what the new rate should be.16 Even under the new 21 percent rate, the corporate tax raised more than $200 billion of revenue last year, with the potential to raise much more.17 And let’s state the obvious here: We need the money if it can be raised efficiently and fairly. Even before COVID-19 hit, the United States was running a deficit of about $1 trillion per year, which is projected to increase in the medium and long run.18 Of course, there are strong reasons to not raise taxes during a severe recession, but — once the most urgent period is over — higher corporate taxes could be offset by lower taxes elsewhere or, if needed, pay back some of the borrowing undertaken to combat the recession spurred by COVID-19. Moreover, there remain many worthy investments the government could make that remain unfunded.19

Our goal in this report is to provide policymakers trying to make Americans better off with a missing piece of the puzzle: There are good reasons for having higher corporate rates. We are not wedded to a conclusion about the right rate, but rather to the idea that the arguments favoring lower rates (and dominating the current discussion) are incomplete. Instead, we also need to grapple with the factors that have changed in favor of higher rates.

II. The Case for Higher Corporate Taxes

Two important but overlooked changes favor higher corporate tax rates. First, changes in the structure of the corporate tax, reinforced by changes in the nature of business investment, have made the tax more efficient. Second, evidence suggests that there has been a significant rise in economic rents, which are non-distortionary (and, indeed, perhaps beneficial) to tax.

A. Corporate Tax Has Become More Efficient

The prima facie case in favor of raising revenue through high capital taxes at the entity level is straightforward if the tax is levied through a cash flow tax. Under a cash flow tax, businesses can immediately deduct the costs of purchasing long-lived assets, like equipment and structures. Under a standard “income tax” (a term of art here), in contrast, these expenses would need to be capitalized and thus deducted only over time as they depreciate in value. Taxpayers, of course, prefer immediate deductions to capitalized expenses because they can reduce their tax liability sooner.

For a risk-free investment, companies receive two types of returns. The first is the normal return. The normal return is the premium that savers demand in exchange for forgoing current consumption and instead allowing their savings to be used for investment. Thus, the normal return is the amount that a company must pay to obtain capital from savers to fund its investments. The second is the “supernormal” return to capital, also known as economic rents. Economic rents are payments to a factor of production that exceed the return necessary to induce the contribution of that factor. This factor could be labor, land, or capital, but here we’re concerned with capital. For example, if a company borrows $100 to invest, paying a 3 percent interest rate, and it gets returns of $110 the next year, its rents are $7: It pays back the $100 loan and the $3 of interest, and has $7 of rents to spare. And a result that will be crucial going forward is that, if the rent had been only $6, or $1, or 1 cent, the company would still have made the investment, since it still comes out ahead after paying the interest.

We have long known that cash flow taxes levied on business entities exempt the normal return to capital from taxation.20 With a cash flow tax, the government effectively becomes an equity partner in the venture, giving the company part of the capital it needs upfront in exchange for a share of the future profits (through taxes). The cost to the government of providing that capital is the opportunity cost of forgoing other investment opportunities, which is the normal rate of return.21 If the normal return is all that the government recovers when it taxes the profits, then it’s really just getting paid back exactly what it provided, and the company is effectively untaxed. And (putting aside market failures) untaxed companies produce efficient amounts of investment. Thus, by exempting this normal return to capital, a cash flow tax leaves companies investing the efficient amount, even at high rates. Importantly, however, if the company earns rents, a cash flow tax still hits those rents at the statutory rates.

An example, summarized in the table, may clarify things. Take a company that has $300 of taxable income when the corporate tax rate is 40 percent. If the company does nothing else, it’ll owe $120 in taxes ($300 * 40 percent). Under a cash flow tax, if the company invests $100 in Project A, it can take an immediate $100 deduction, leaving it now with $200 of taxable income and $80 of tax owed. Note that nothing would change economically if the government collected the full $120 tax originally owed and then mailed the business a $40 check labeled “Government investment in Project A.”22 Thus, the company has to put up only 60 percent of the cost of the project, with the government putting up the other 40 percent. In return, however, the government collects 40 percent of any returns from the project, just like an equity investor.23 So, as shown in column (i), if Project A lasts one year and earns the normal return (3 percent), that means it’ll be worth $103 at the close of the project, with the company owing the government $41.20 ($103 * 40 percent). The government put up $40 and got $41.20 back — which might sound good for the government and bad for the company — but effectively, the government didn’t raise any tax. This is easiest to see by imagining the government borrowed the $40 at a 3 percent interest rate at the outset to fund the “check” it sent. At the end of the year, it has $41.20 and owes its lenders $41.20 ($40 + $40 * 3 percent). As a result, the company is effectively untaxed on projects earning the normal return.

However, if Project A also earns rents, the story is different, as shown in column (ii). Suppose that the project yields $110. The government now collects $44 ($110 * 40 percent), leaving the government with $2.80 after paying off its lenders. Notice that this is 40 percent of the $7 of rents earned by the company.

Example of Cashflow Taxation of Projects Without and With Rents


(i) Without Rents

(ii) With Rents

Year 1:

(1) Cost of Project A



(2) Change in tax collected
Row (1) * 40% tax rate



Year 2:

(3) Return on investment



(4) Rent




(5) Value in year 2 of year 1 tax reduction
Row (2) * 1.03 (because of 3% interest rate)



(6) Change in year 2 tax collected
Row (3) * 40% tax rate



Effective government tax collection

Row (5) + Row (6)



Thus, for projects that earn rents, becoming a full equity partner is valuable to the government: It raises a tax on the economic rents (here at a 40 percent rate). The government earns enough to cover the costs of its initial investment and captures some of the project’s upside, which takes the form of rents. Importantly, however, the government raises the money without discouraging companies from making any efficient investments. Recall that a company already engages in the efficient level of investment, as long as it gets back the normal return. Everything beyond that is just gravy, and taxing it won’t distort the company’s incentives.

A tax that raises revenue only from economic rents is extremely attractive. A true rent is such a good return that investors will choose to invest in it even with a very high tax rate. As a result, these returns are not sensitive to marginal tax rates. Because a normal return is sufficient to induce an investor to invest, the loss of any return above that (the rent) will not discourage the investment. Thus, a tax that hits only these excess returns is extremely efficient — indeed, as efficient as a lump sum head tax24 — and thus, under some assumptions, will have an optimal rate of nearly 100 percent. That is, a cash flow tax on rents is a way of raising revenue essentially without economic costs — a remarkable result, the complications of which we return to later.

Thus far, we have considered a project with a known return. But these results stay the same when projects are risky. Savers demand higher returns for investing in projects whose risk cannot be diversified away. In the same way that the government can invest in a risk-free venture, it can also invest in a risky venture. It just has a higher opportunity cost when it picks the risky venture because the government could also invest in another higher-risk, higher-return opportunity. So only the rents are not part of the cost to the government of investing, and thus are a return above and beyond what it cost the government to invest in the first place.25

Recent changes in tax law and investment patterns have brought business taxes closer to the cash flow tax ideal. First, regarding changes in tax law, in 13 of the 15 years before the TCJA, the code offered bonus depreciation, allowing companies to immediately deduct a large proportion of the cost of purchasing long-lived equipment.26 The TCJA goes further,27 allowing the immediate deduction of the full costs of purchasing equipment, precisely as a cash flow tax would.28

Second, changes in investment patterns have increasingly moved the corporate tax toward a cash flow tax. The tax code has always allowed for the immediate deduction of most kinds of self-developed intangible capital (for example, employee training, long-range planning done by executives, advertising, and so forth).29 This type of investment makes up a substantial and increasing share of business investment. Consider the increasing importance of intellectual property produced by (usually) immediately deductible salaries paid to workers, versus the declining importance of machines in factories. One estimate is that intangible investment has risen from 30 percent of total investment in the 1970s to 60 percent today.30 As a result, the corporate tax already looked quite a bit like a cash flow tax even before considering the full expensing of equipment provided by the TCJA.31

The net result is that the corporate tax now resembles a cash flow tax. Indeed, the size of the corporate tax base has converged to that of the cash flow tax base over time. The figure shows our estimates of the actual corporate tax base (in dark bars) and the corporate cash flow tax base (in light bars). As is clear from the figure, whereas the two bases were quite different in the 1970s, more recently, the size of the bases has been essentially the same.32 Although the current tax base could be both over- and underinclusive relative to a cash flow tax, these data show quantitatively what our description of the history of the corporate tax suggested: The size of the current corporate tax base is close to the size of the cash flow tax base.33

One might worry that as the corporate tax comes to mirror a cash flow tax, it will become more efficient but cease to be an important source of revenue as we shrink the tax base by adding lots of new deductions. We don’t find this to be true. The money we could raise from a corporate cash flow tax is large, with a likely tax base of about $900 billion today solely from domestic operations.34 The figure shows this result graphically. Over the past half-century, the cash flow tax base has always been at least 5 percent of GDP. And, if anything, the corporate cash flow tax base has risen over time: from about 5.4 percent of GDP in 1970-2001 to about 6.4 percent in 2002-2013.

Corporate Cashflow Tax and Actual Corporate Tax Bases as a Percentage of GDP

To be clear, nothing in our argument suggests that there should not also be taxes on the normal return to capital at the shareholder level. We merely argue for a higher rate on corporate cash flows than on the normal return, because the corporate cash flow tax approximates an efficient rents tax.35 If we were to fully convert the corporate tax into a cash flow tax, the normal return to capital (invested in corporate equity) would be taxed only through shareholder-level taxes on dividends and capital gains. Rents, by contrast, would be taxed at both the corporate and shareholder level, and thus at a higher rate.36

B. Rising Rents

A second important change favoring higher rates is a significant rise of rents in the U.S. economy. Indeed, these rents are what allow a cash flow tax to raise significant revenue. Because taxing rents is not distortionary and is perhaps even beneficial since doing so reduces rent-seeking behavior, this shift presents a golden opportunity for raising high revenue at a low efficiency cost.

Economic rents can accrue to capital providers for a variety of reasons, any of which are efficient to tax.37 Even in competitive industries, companies with lower costs — for example, because of an advantageous site unavailable to other companies — earn economic rents. We focus here more on rents earned through monopoly or other market power. Rents attributable to market power are signals of a loss of economic efficiency. Because the company with market power charges a supercompetitive price, too few units are sold, leading to inefficiency.

Evidence increasingly suggests that the U.S. economy suffers from growing rents,38 whether because of larger network effects and other returns to scale,39 increasing industry concentration,40 increases in common ownership,41 reduced antitrust enforcement,42 or other factors. The rise of intellectual property and other intangible investment has helped move the corporate tax toward a cash flow tax and, at the same time, plays an important role in the many explanations for increasing rents.

An economist’s instinctive answer to a rise in economic rents attributable to market power is that antitrust enforcement should be increased to make the industry more competitive or that public utilities-type regulation be imposed to restrict prices to the competitive level. If these strategies could be perfectly implemented, this is the first-best solution: These actions reduce the price to the competitive level, eliminating the social loss from market power. Taxing these rents, by contrast, affects the distribution of the monopoly profits but does not eliminate the efficiency costs of market power. Nevertheless, in the real world in which antitrust enforcement is imperfect, taxing rents may be a good option alongside antitrust.43 Indeed, as Reuven S. Avi-Yonah has pointed out, the modern corporate tax was enacted in the early 20th century in part as an anti-monopoly tool.44

In particular, companies with powerful network effects45 or positive returns to scale46 may limit the usefulness of traditional antitrust remedies like breaking up dominant companies and, to a lesser extent, even blocking mergers. If the returns to scale or network effects are large enough, breaking up the company can make consumers worse, rather than better, off. Put differently, a productively efficient monopolist that can take advantage of scale will charge less than a bunch of competitive but productively inefficient small companies. This issue of “natural monopolies” is not new. Traditionally, these kinds of companies are regulated as public utilities with regulators trying to set the price charged at the competitive level. It is outside the scope of the report to consider whether regulating technology companies like Google or Facebook like a public utility47 or generally stepping up antitrust enforcement are good ideas; for now, we just note that current competition policy appears to allow broad potential scope for earning rents.48

Thus, a rents-focused corporate tax with a high rate may be a good option to raise revenue and provide for a more progressive distribution of those rents than in the absence of the tax. In terms of efficiency, although it does not combat monopoly pricing, the tax avoids some of the problems created by either antitrust or economic regulation.49 It is relatively simple to administer and does not require measuring relevant markets or directly intervening in businesses. Indeed, although the tax would leave in place the inefficiency associated with market power, it would still have its own efficiency benefits: Because the tax is highly efficient, it would allow for the reduction in other distortionary taxes.

And finally, higher taxes on rents discourage some inefficient rent-seeking behavior, such as lobbying to get laws changed to allow businesses to gain monopolies or otherwise drive out competition. If the returns to that behavior are taxed at high rates, the behavior itself should decline. For rent-seeking to be deterred, however, the rent-seeking expenses must be nondeductible from taxes. Otherwise, for the same reason that other investment behavior will not be discouraged by a tax on rents, that tax will not discourage rent-seeking behavior. But many such costs are nondeductible, such as lobbying,50 bribes and kickbacks, fines and fees for breaking laws and regulations,51 and nonfinancial costs of rent-seeking like criminal penalties for violating antitrust laws or simply feelings of guilt or unease.52 So, even independent of the revenue raised from the tax on rents, such a tax has salutary effects. And as the corporate tax has increasingly targeted rents, the potential importance of this rent-seeking deterrent has increased.

Before moving on, one may wonder how the two big reasons suggesting higher rates relate to each other. In particular, if — in a simple world — rents should be taxed at 100 percent, and we say that the first reason for higher corporate tax rates is that “the corporate tax base is now focused on rents,” who cares about this second reason, rising rents? It may seem that if rents are a small part of the economy or a big part, the first reason implies that we should have a high corporate tax rate because it’s good to get (as close to) 100 percent of those rents as possible, small or large as they may be.

If readers consider the first reason sufficient for us to have made our case, we do not object. However, we think that a more nuanced analysis shows that the two reasons reinforce each other. First, although the corporate tax has moved closer to a cash flow tax focused on rents, it is not the case that the corporate income tax purely targets rents, so a larger share of profits going to rents will make this imperfectly targeted tax more concentrated on rents, which we should tax at a higher rate. Second, given this imperfect targeting and the effect of taxing rents on discouraging rent-seeking, greater rents mean more benefits from higher rates. Third, policy changes typically require overcoming political inertia and allocating scarce domestic political capital. And more rents mean that the gains to overcoming that inertia and taxing rents at higher rates are greater.

C. Other Reasons

Apart from these two changes, three other factors militate in favor of higher corporate tax rates.

1. Distribution.

Taxes levied on economic rents accruing to capital are likely to be highly progressive, because the incidence of taxes on these rents will probably be borne primarily by the providers of business capital.53 The debate about the incidence of the corporate tax is old,54 with some saying that much is borne by labor.55 That analysis is different from ours, since it did not concern a tax on rents but rather a tax on normal returns to capital. Because a tax on rents does not change incentives on the margin, it is less likely to be passed on to other parties than a tax on normal returns, driving its progressive distribution.56

2. Labor income masquerading as capital.

Currently, an entrepreneur or other business owner is eligible for favorable tax treatment at capital rates for what was arguably a labor endeavor. For example, Facebook CEO Mark Zuckerberg is one of the world’s richest people primarily because of his labor contribution, not because of a capital contribution with a gigantic risk premium. He now owns stock worth more than $67 billion on which he is eligible for indefinite deferral of personal taxes through the corporate form and capital gains rates if he ever realizes income.57 Raising taxes on businesses would encourage entrepreneurs to take salaries that matched their labor contributions, equalizing taxes on all forms of labor income. Likewise, it would stop tax shelters in which individuals with sufficiently long time horizons can incorporate their businesses, retain earnings (including what should be labor income), and reduce their tax burdens. This phenomenon was common in past eras,58 and given the relationship between the top individual rate and the new 21 percent corporate rate, it may well return.59

3. Second-best taxes and politics.

Even if a corporate tax were not the most efficient tax, it is arguably one of the best available second-best taxes. Voters tend to believe that taxes or subsidies benefit or harm the party on whom they are statutorily incident.60 Overwhelmingly, middle-class Americans get their income from their labor, not ownership of corporations. So corporate taxes tend to be relatively popular.61 At the same time, there is widespread resistance to the kind of redistribution through taxes on labor that might maximize welfare because people have strong intuitions that people deserve to keep a substantial share of the income that they earn, making taxing away a very large share of labor earnings challenging.62 Thus, at least to the extent that corporate taxation is at least as efficient (for a given level of progressivity) as directly raising taxes on labor income, this factor favors higher corporate taxes.

Thus far, we have an argument for taxing corporations on a cash flow basis at a very high rate. But the argument is not so simple; we turn next to counterarguments.

III. Potential Drawbacks

We have described several reasons to support higher corporate tax rates. But we do not want to lose sight of the arguments on the other side — favoring lower corporate tax rates — that need to be weighed against these new and preexisting reasons to support higher corporate taxes. We divide these responses into two parts. First, we briefly discuss international mobility. These concerns have been well explored elsewhere, but we briefly review them here.63 Our point is not to rehash the merits and demerits of the international mobility debate. Rather, we largely put that issue to the side and focus our discussion on the domestic issues in a corporate tax designed to target rents.

A. International Mobility

As mentioned in the introduction, current thinking emphasizes international competition in setting corporate tax rates, which Section II ignored. International mobility allows companies to move activities abroad to avoid high domestic tax rates. Of course, some economic activity cannot be moved — such as activity benefiting from a natural resource or particularly advantageous location. Similarly, if a company is considering investing in a project likely to earn the normal return so that effectively no tax will be levied through a cash flow tax, companies would not seek to shift that project to a jurisdiction with a lower statutory rate.

But there are at least three types of ways in which companies may shift activity or profits abroad in response to a high cash flow tax. First, companies may shift more of their profits abroad without moving “real activity” (that is, employment and capital investment on the ground). Common methods are mispricing transactions between subsidiaries,64 strategic use and mispricing of debt among subsidiaries,65 or other accounting tricks that shift measured income from high-tax jurisdictions to low-tax ones. Another step to avoid high U.S. taxes without shifting real activity — and one with high political salience — is moving the corporate domicile abroad, known as inversion.66 Second, even projects earning the normal return might be shifted abroad in response to a high cash flow tax, if doing so makes it easier to shift existing rents to low-tax jurisdictions. Third, some projects may have the potential to earn rents in multiple locales. For those projects, high taxes on rents encourage moving real activity abroad.67 As a result, companies sometimes consider the statutory rate, even under a cash flow tax, leading them to potentially avoid locating rent-earning projects in a jurisdiction with a high cash flow tax rate, especially if the source of the rent is relatively mobile (for example, intellectual property).

Thus, a cash flow tax with a high rate is likely to put pressure on the tax system’s ability to contain profit shifting and inversions, and to some extent encourage multinationals to locate real activity abroad. We do not take issue with these well-worn arguments, which we take as a baseline. We merely wish to note important arguments pointing in the other direction. We also discuss potential reforms to limit these pressures in Section IV.

B. Domestic Taxation Issues

1. Inability to provide full refundability.

Under the theory discussed in Section II, a cash flow tax does not distort investment decisions if, at the time of the investment, companies are provided a tax benefit whose value matches the tax rate multiplied by the investment amount. So if the rate is 21 percent, and a company invests $1,000, the company must receive a benefit from the government upfront of $210. If the company has positive net income, a deduction works fine. But if the company is in a loss position, receiving a deduction of $1,000 will have a present value of less than $210 because the government does not refund the loss; instead, the company is only allowed to deduct the loss against income in future years.68 Indeed, the leading study suggests that these net operating losses are worth only about 50 percent of their face value because they are not indexed for interest or inflation, and the company may never earn enough taxable income to use them.69 Further, the absence of full refundability also threatens the neutrality of taxes nominally falling on the return to risk. This problem would be exacerbated by a cash flow tax at a high rate because the government would tax the upside when projects succeed but not fully refund losses on the downside when projects fail. Companies facing a regime with high rates and low-value NOLs may avoid risky projects that, even after adjusting for risk, have a higher pretax net present value, thus raising the social cost of taxes.

2. Distorting organizational form.

Applying a full cash flow tax at a relatively high rate to C corporations without changing passthrough taxation would provide an incentive for companies to organize as passthroughs, unless they need access to public securities markets. In some ways, this would mimic the incentives before the TCJA, except more so. We believe this is less of a problem than one might at first think. Acknowledging that there has been significant erosion in the share of income earned by C corporations over time,70 there is a relatively inelastic group of very large companies that need to access public markets and thus be C corporations.71 This can make it efficient — if we must have two different tax regimes, and there’s a reason (perhaps a political one) to have a higher rate for public corporations — to set the C corporation rate higher and use public trading as the dividing line.72

A more comprehensive solution to this problem would involve unifying the regime facing all but the smallest businesses, using an entity-level cash flow tax. As noted earlier, the arguments in favor of a cash flow tax at the entity level apply to nearly all businesses, not just C corporations.73 Indeed, the arguments are potentially stronger for passthroughs, which are less likely to shift projects abroad in reaction to the tax because they are less likely to be international in scope.74 There is also some evidence that the rise in inequality is linked to the increasing use of passthrough taxation, providing further support for higher tax rates on them.75 Further, for privately held businesses, cash flow taxation may help share risk by absorbing some of the upside and downside of businesses with few owners.76 At minimum, there are good reasons, in addition to the administrability concerns,77 to repeal the new 20 percent passthrough deduction in the TCJA.78

3. Other potential issues.

Here, we briefly consider some other potential drawbacks to high cash flow taxation. First, as Lily Batchelder points out, business executives untutored in the mechanics of cash flow taxation may be attentive to the full statutory rate, acting as if they will have to pay it even if they actually effectively pay no taxes on their investments that earn the normal return.79 Although executives may adjust over time, especially in a system with high rates and full expensing, this factor still gives us some pause. Second, in some cases, high-rate cash flow taxes may worsen agency problems within companies, reducing principals’ incentives to monitor the companies’ agents — for example, when the monitoring costs are not tax deductible (for example, at a nonprofit) but profits are taxed at a high rate.80 Note though that this effect is limited by the fact that the cost of much monitoring, such as the wages paid at taxable companies to employees who monitor portfolio performance, is tax deductible and thus not subject to this concern. Third, the one-time introduction of this system has the potential to substantially reduce the value of business equity, which will likely be unpopular with important parts of the electorate, particularly, but not limited to, retirees and soon-to-be retirees, who hold large amounts of this equity as savings. If the policy is revenue-neutral81 — that is, accompanied by reductions in other distortionary taxes — there could be at least as many winners as losers from the change, but an attempt to compensate some middle-income investors and retirees might well be warranted.82

IV. What to Do?

Basic theory suggests that rents accruing to capital providers should be taxed at a very high rate through a cash flow tax. However, the theory has holes. What are policymakers looking at the current corporate tax to do? We argue that there are strong reasons to have higher corporate rates, especially if issues of international avoidance are further addressed and the tax is even more closely targeted at economic rents. We discuss ways to do so here. We fully acknowledge, however, that we are operating in an arena with great uncertainty — regarding both the ways to improve the corporate tax, especially to reduce international avoidance, as well as weighing the pros and cons of a higher tax rate.

A. International Avoidance

In light of the concern that higher taxes would lead to an increase in shifting profits or economic activity abroad or outright corporate inversions, Congress could adopt other measures aimed at these issues. We do not intend here to list all possible options or all the upsides and downsides of the options we discuss, but rather to show that options remain on the table for combating international avoidance.

The TCJA made substantial changes to the international side of U.S. corporate taxation, including introducing the base erosion and antiabuse tax and the global intangible low-taxed income regime. The BEAT is designed to combat profit shifting from U.S. operations of foreign and domestic multinationals by creating a minimum tax based on payments made to foreign related parties.83 At a high level, the BEAT can be thought of as partly denying deductions for payments made to foreign related parties (usually subsidiaries) for rent, interest, royalties, and many services because those deductions may be inflated by profit shifting.84

The GILTI provision is a global minimum tax that is applied to a specific tax base, after excluding a 10 percent return on physical assets, to focus on income derived from intangibles.85 GILTI, like the BEAT, is largely designed to prevent profit shifting from higher-corporate-tax countries. It is too soon to know with much certainty how well these changes are working to limit the effective mobility of various kinds of rents under the current rate structure.86 Increasing the statutory corporate tax rate without increasing the BEAT and GILTI rates would increase the incentive for shifting profits abroad. So, to the extent these provisions are working well, it would make sense to increase those rates commensurately with the increase in the statutory rate.

One potential broader reform might move us back to(ward) a worldwide tax regime, but with no deferral, a somewhat lower rate for some kinds of foreign cash flows, and with foreign taxes that are only partially credited.87 As part of that move,88 Congress could do more to restrain inversions — for example, by not allowing larger U.S. companies to invert by merging into smaller foreign companies, as under the Obama administration’s proposed toughening of section 7874, although there are questions about how effective that would be.89 Moreover, the existence of large economic rents raises the potential gains from international cooperation on profit shifting and reduces the likelihood that international tax competition is beneficial.90 It therefore reinforces the potential gains from the recent OECD initiative for a global minimum tax to deter avoidance, which would in turn make the use of a worldwide source-based regime more practical.91 At a minimum, as Dani Rodrik points out, international treaties could focus more on the coordination of tax rates.92

Another reform would turn the corporate tax into a destination-based cash flow tax (DBCFT), under which the inclusion of revenue and allowability of deductions are determined by the location of the final sale of the good or service. Proponents of this reform argue that it would end inversions and profit shifting by changing the focus of sourcing rules to the location of customers, which is hard for businesses to manipulate.93 A DBCFT may address many concerns with profit shifting,94 but there remain potential problems, including inducing large shifts in U.S. currency (which should be proportional to the rate of the DBCFT) and treaty compliance.95

It is also worth noting that fears over the negative effects of the United States having a higher corporate rate than other countries are sometimes overblown. Corporations locate places for many reasons, including the wages that they must pay (which depends in part on other types of taxes, like income taxes) and the benefits yielded from higher taxes, like more educated workers and better infrastructure. There is little special about the corporate tax rate as part of this bundle, except for changing corporate residency and profit shifting among locations. This reality is part of why, at the pre-TCJA 35 percent rate, the corporate tax still raised a lot of revenue — on average more than $300 billion per year in the five years before the TCJA came into effect — even without further antiavoidance measures.96 And although debate continues over what would be most effective, many agree that more can be done to mitigate international avoidance.97

B. Refining the Focus on Economic Rents

Policy changes can also help address a variety of concerns about how the corporate tax targets rents.

In response to the concern that imperfect loss offsets mean that a corporate cash flow tax is no longer primarily a tax on rents, the tax code could provide more generous NOLs — first undoing the less generous treatment enacted in the TCJA,98 but then going beyond that, such as by adjusting for inflation and possibly providing interest on NOL recovery. The code could make immediate refunds easier, for example, by allowing refunds against payroll or other taxes, as the research tax credit does.99 Or the code could simply allow the sale of NOLs, which would be akin to full refundability, although it might be politically unpopular or lead to concerns about fraud.

Most basically, expensing could also extend to structures, inventory, and the types of self-developed intangible property that are now capitalized.100 Doing so would help finish the transformation of the corporate tax into a cash flow tax.

If we do move to full expensing (and probably also under the status quo), we would want to curtail interest deductions. With full expensing, allowing interest deductions can result in a negative tax rate, causing projects with negative pretax value being funded — for example, if the loan comes from a tax-exempt party that will not pay tax that corresponds to the deduction received by the loan recipient.101 To avoid this undesirable result, interest deductions and inclusions for nonfinancial companies102 should be eliminated in keeping with cash flow tax principles.103

In response to the concern that entrepreneurial laborers would have their labor taxed at inappropriately high capital rates, there are two responses. First, entrepreneurs could actually receive income from their labor in the form of labor income! In other words, higher corporate tax rates could simply cause a more appropriate labeling of income. One may respond, quite sensibly, however, that small companies are liquidity-constrained, necessitating payment in equity. In response to that, the tax law could give companies, say, five years to become liquid enough to pay a higher salary to the entrepreneur. In other words, the code could give small companies five years to recharacterize income to the company as labor costs, allowing time for the company to gain more liquidity and pay a reasonable salary to entrepreneurs. If a company opts to pay these larger salaries ex post, the code could tax the entrepreneur and provide a refund to the company.

C. What Rate?

Ultimately, policymakers must decide what the corporate tax rate will be. We cannot tell them exactly what that rate should be. But we can offer both guidance and the caution that, just as we do not know, neither do those who suggest low rates largely on grounds of international competition.104

If there were no issues of international competition, we would suggest high rates under a cash flow tax. For example, proponents of moving to a destination basis have argued that it would eliminate nearly all incentives for shifting profits and real activity.105 If this is true — and we could also carry out the domestic reforms discussed earlier — we would suggest a rate of at least 50 percent. This is about the statutory rate that the United States had from the 1950s to 1970s, a time of high economic growth but also limited international competition.106 Notably, the corporate tax was considerably less focused on rents during that period compared with today, so these high rates would probably be more efficient now than they were at midcentury.107 Even though the most basic theory might imply it, we would not suggest a corporate tax rate of nearly 100 percent because the corporate tax is not — and is not likely to ever be, even after further honing the tax — a tax purely on rents because of the concerns about nonrefundable losses and distorting risk-taking, issues in conforming the taxation of what are now passthroughs, recharacterization of income as salaries, effects on entrepreneurship, agency problems, and other domestic policy design issues. Further, if we cannot tackle the domestic reforms suggested in this report, we would suggest rates somewhat less than 50 percent, even if the international side was largely “solved.”

But in fact, many of the most important issues now are international. In general, the higher the corporate tax rate goes, the stronger the intensity of profit shifting, changes in the location of real activity or who owns that activity, and incentives to invert. We could therefore keep our 21 percent rate, which is in line with or below that of most other industrialized countries.108 But that decision would risk ignoring the strong reasons to have higher rates that we describe in this report. Ultimately, the right rate depends significantly on our ability to address international concerns: The better the system deters shifting of profits and real activity, the more coordination across countries there is, etc., the higher the tax rate should go. But neither we nor others are in a great position to weigh the factors.

We end with a hunch: that a sensible approach, at least if some of the international issues could be dealt with, would be to set the corporate tax rate about equal to the top labor tax rate. Doing so would at least simplify the taxation of corporations by reducing — although not eliminating — the incentive to recharacterize labor income as capital income or vice versa. Equalizing the tax on income earned through labor and corporate equity for high earners is complicated, in part because of the shareholder-level taxes on dividends and capital gains, which increase the effective rate on returns to corporate equity. However, three-quarters of corporate equity is owned by those who do not pay taxes on dividends, whether because they are owned through charities, pensions, or other tax-preferred savings accounts like section 401(k) plans or IRAs, or pay minimal taxes like foreign owners.109 This reduces the importance of these shareholder-level taxes in roughly equalizing the treatment of labor and corporate equities.

V. Conclusion

Policymakers have overwhelmingly focused on how international competition means that the United States should lower its corporate tax rates. In this report, we have tried to add some balance to the debate, arguing that this conclusion is far from obvious and, in fact, that important factors point in the opposite direction — toward higher rates. We note a major tension at the heart of recent corporate tax policy: Policy and economic changes have made the tax more efficient, and further changes that we discuss could make it more so. All else equal, that efficiency justifies a higher rate, yet the rate has instead decreased considerably. At the same time, the increase of rents in the American economy further justifies higher rates. We cannot say what the optimal rate is; in particular, there are major unresolved issues with international competition. We can say that recent legal and economic changes, the rise of rents, and our proposed tweaks suggest that the rate should be higher than the current policy discussion suggests.


1 See, e.g., Jordan M. Barry, “The Emerging Consensus for Cutting the Corporate Income Tax Rates,” 18 Chap. L. Rev. 19 (2014); Eric Toder and Alan D. Viard, “Replacing Corporate Tax Revenues With a Mark-To-Market Tax on Shareholder Income,” 69 Nat’l Tax J. 701 (2016) (arguing for cutting corporate tax rates because “the current U.S. system for taxing income earned within corporations has failed to adjust in response to recent changes in the U.S. and global economy and in other countries’ tax policies”); and Erica York, “The Benefits of Cutting the Corporate Income Tax Rate,” Tax Foundation (Aug. 14, 2018).

2 Section 11. Not all commentators supported dropping the corporate rate all the way down to 21 percent, but most tax scholars who commented on the appropriate rate called for cutting the rate below the prevailing 35 percent rate. For example, Kimberly A. Clausing, Edward D. Kleinbard, and Thornton Matheson — whom we think it is fair to categorize as optimists on the possibilities of taxing capital — proposed cutting the rate to 28 percent. Clausing, Kleinbard, and Matheson, “U.S. Corporate Income Tax Reform and Its Spillovers,” IMF Working Paper No. 16/127 (2016).

3 See, e.g., Laurence J. Kotlikoff, “Abolish the Corporate Income Tax,” The New York Times, Jan. 5, 2014.

4 Although we are focused on corporate taxes, our argument extends at least as strongly to passthrough businesses. Section III discusses some of the issues that would arise from applying a higher-rate regime only to businesses taxed as corporations (C corporations).

5 We use the term “efficiency” in keeping with its economic definition. Absent market failures, an efficient tax causes relatively little unnecessary distortion to economic incentives. That is, efficient taxes generate little behavioral response relative to a world with no taxes and thus do not discourage the activities — like investment, savings, and effort at work — that generate wealth.

6 See infra Section II.A.

7 Howard Gleckman, “Dave Camp’s Great Bonus Depreciation Flip-Flop,” Urban-Brookings Tax Policy Center (May 29, 2014) (criticizing failures to repeal bonus depreciation and characterizing bonus depreciation as a corporate windfall); and Steve Wamhoff and Richard Phillips, “The Failure of Expensing and Other Depreciation Tax Breaks,” Institute on Taxation and Economic Policy (2018) (similar).

8 The idea of using a cash flow or economically equivalent tax at the corporate level has long enjoyed some support in the public finance community. Indeed, cash-flow-equivalent taxation has occasionally been tried in practice — in Italy and Belgium, for example. But it has gained new importance in recent years with more scholars taking up the argument in favor of converting the corporate tax to a cash flow or equivalent tax. See, e.g., proposals in Alan J. Auerbach et al., “International Tax Planning Under the Destination-Based Cash Flow Tax,” 7 Nat’l Tax J. 783 (2017); Clausing, Kleinbard, and Matheson, supra note 2; and Kleinbard, “The Right Tax at the Right Time,” 21 Fla. Tax Rev. 208 (2017).

9 See infra Section IV.B.

10 See infra notes 38-42 and surrounding text.

11 Because of the design complications of integrating the taxation of corporate and noncorporate entities, we set the issue of integration aside. See, e.g., Treasury, “Integration of the Individual and Corporate Tax Systems” (Jan. 1992) (explaining options for integration). Moreover, to the extent that many integration proposals try to tax the normal return to capital at the same rate as economic rents, this seems like a downside to us.

12 See, e.g., James Mirrlees et al., Tax By Design (2011) (explaining that the corporate income tax is administratively convenient because it (1) is easier than taxing individual shareholders on corporate income entirely at the personal level; (2) prevents individuals from incorporating themselves to avoid personal tax indefinitely; and (3) allows an indirect tax to be placed on tax-exempt (charities) or practically tax-exempt shareholders (foreign shareholders under many treaties).

13 Personal-level taxes on corporate income (dividends and gains on sales of stock) in this scheme provide an opportunity to tax the normal return to capital, as well as tax economic rents a second time. We are not concerned about taxing economic rents twice, as long as the cumulative rate is appropriate. We discuss this point in greater detail later. But see Kleinbard, “The Right Tax at the Right Time,” supra note 8 (discussing the rise of rents and a rent tax, but ultimately concluding that the rise in rents does not call for a higher tax rate on rents than other corporate income).

14 See, e.g., James R. Hines Jr., Rachel R. Griffith, and Peter B. Sorensen, “International Capital Taxation,” in Dimensions of Tax Design: The Mirrlees Review 914 (2010) (providing a comprehensive review of the international dimensions of taxing capital); Michael P. Devereux and Griffith, “Evaluating Tax Policy for Location Decisions,” 10 Int’l Tax & Pub. Fin. 107 (2003); and Congressional Budget Office, “An Analysis of Corporate Inversions” (Sept. 2017).

15 See Urban-Brookings Tax Policy Center, “Amount of Revenue by Source” (Feb. 12, 2020) (taking an average of the five years before passage of the TCJA).

16 For example, Joe Biden proposes a 28 percent rate. Richard Rubin, “Joe Biden Proposes $1 Trillion in New Corporate Taxes,” The Wall Street Journal, Dec. 4, 2019. Natasha Sarin and Lawrence Summers propose a 25 percent rate. Sarin and Summers, “A Broader Tax Base That Closes Loopholes Would Raise More Money Than Plans by Ocasio-Cortez and Warren,” Boston Globe, Mar. 28, 2019.

18 CBO, “Budget” (Jan. 2020).

19 See, e.g., Nathaniel Hendren and Ben Sprung-Keyser, “A Unified Welfare Analysis of Government Policies” (working paper, 2019).

20 E. Cary Brown, “Business-Income Taxation and Investment Incentives,” in Income, Employment and Public Policy: Essays in Honor of Alvin E. Hansen (1948); Alvin C. Warren Jr., “How Much Capital Income Taxed Under an Income Tax Is Exempt Under a Cash Flow Tax?” 52 Tax L. Rev. 1 (1996).

21 Alternatively, one can think of the government financing its share of the investment in the company by borrowing in the market at the normal rate.

22 We later discuss the issues that arise if the company has losses. See infra notes 69, 70, and 99 and surrounding text.

23 Note that the government’s equity stake is determined by the tax rate. If the rate is 10 percent, the government puts up 10 percent of the capital and takes 10 percent of the profits. Likewise, if the rate is 60 percent, it puts up 60 percent of the capital and takes 60 percent of the profits.

24 As discussed supra note 5, an efficient tax generally distorts incentives as little as possible. A head tax or lump sum tax requires that individuals pay a given amount regardless of their behavior. Because one’s behavior does not affect tax liability, there is no problematic behavioral response to such a tax. Laurie L. Malman et al., The Individual Tax Base: Cases, Problems and Policies in Federal Taxation 9 (2002).

25 Put differently, taxes placed on the expected return to risk — if there’s a single tax rate and full refundability for losses — produces no real burden on taxpayers. See Evsey D. Domar and Richard A. Musgrave, “Proportional Income Taxation and Risk-Taking,” 58 Q.J. Econ. 388 (1944); and Louis Kaplow, “Taxation and Risk Taking: A General Equilibrium Perspective,” 47 Nat’l Tax J. 794 (1994). As a result, the portion of cash flow taxes that falls on risk creates no real burden, raises little (risk-adjusted) revenue, and imposes little or no distortion.

26 Edward G. Fox, “Does Capital Bear the Corporate Tax After All? New Evidence From U.S. Corporate Tax Returns,” 17 J. Empirical Legal Stud. 71 (2020).

27 One may wonder about how the recent post-TCJA experience comports with the basic theory. It is difficult to tell for two reasons. First, it is still early. Second, the predicted effects of the TCJA are ambiguous: It both reduced rates (which we suggest should have little effect on investment) and moved toward a cash flow tax (which we suggest should increase investment). Evidence is mixed at this point. Compare Robert J. Barro and Jason Furman, “Macroeconomic Effects of the 2017 Tax Reform,” Brookings Papers on Economic Activity 257 (2018), and Emanuel Kopp et al., “U.S. Investment Since the Tax Cuts and Jobs Act of 2017,” IMF Working Paper 19/120 (2019) (finding little effect of the tax cuts on investment), with Council of Economic Advisors, “Economic Report of the President” (Mar. 2019) (suggesting a considerable effect on investment).

28 Section 168(k). Under the TCJA, full expensing is scheduled to be phased out in 2023, but it is unclear whether this will actually occur. Section 168(k)(6).

29 See, e.g., reg. section 1.162-5 and -14.26.

30 Carol A. Corrado and Charles R. Hulten, “How Do You Measure a ‘Technological Revolution’?” 100 Am. Econ. Rev. 99 (2010).

31 Fox, supra note 26.

32 The convergence is a result of the statutory changes moving toward expensing and the increase in share of investment in immediately deductible intangible capital discussed in the previous two paragraphs of the text, as well as a falling real normal rate of return. The falling normal rate of return causes convergence because the timing of deductions matters less in an environment when (risk-free) interest rates are low.

33 As noted in Fox, supra note 26 and surrounding text, the cash flow tax base includes both rents and the returns to risk. The existing base differs from a cash flow tax in two main ways: (1) The tax continues to require the capitalization of structures, some intangible capital, inventory, and land, all of which would be immediately deductible under a cash flow tax (sections 263 and 263A); and (2) the tax continues to allow the deduction of large portions of net interest, which would be nondeductible under a (R-base) cash flow tax (section 163).

34 This figure is admittedly a back-of-the-envelope calculation until we can access the most recent data. We calculate the cash flow corporate tax base in 2013 for domestic operations of nonfinancial companies as about $600 billion. See Fox, supra note 26. Because profit shifting artificially lowers the size of this base, it seems likely that “true” domestic cash flows were in fact higher than this. If one scales this figure up to account for financial C corporations as well, the cash flow base was likely to be at least $750 billion in 2013. Updating for GDP growth and inflation yields $915 billion in 2018.

35 It also may make sense to have a tax on the normal return, but this is a question outside the scope of this report. See Peter Diamond and Emmanuel Saez, “The Case for a Progressive Tax: From Basic Research to Policy Recommendations,” 25 J. Econ. Persp. 165 (2011).

36 Consider this example: B Co. earns $100, which is composed of $60 in supernormal returns and $40 in normal returns to capital. A 40 percent cash flow tax results in $24 of tax at the corporate level ($60 * 40 percent). If the remaining $76 is paid as a dividend to shareholders and taxed at 20 percent, a tax of $15.20 will be collected at the shareholder level. If the company had earned only the $40 of normal returns, the tax rate would have been only the 20 percent dividend rate, yielding $8 of taxes. Thus, the remaining taxes ($24 + $7.20) must be on the supernormal returns, yielding a higher cumulative “double tax” rate of 52 percent on those.

37 True economic rents should be distinguished from so-called quasi-rents, which are payments to factors of production that appear ex post to have been unnecessary to secure the contribution of that factor but that ex ante are needed to induce actors to invest. For example, an optimal patent system produces quasi-rents for successful inventions that yield a patent and market power, but viewed from the point of view of the initial investment, the promise of these rents may be necessary to give incentives for savers to invest in the first place.

38 See generally Joseph E. Stiglitz, The Price of Inequality: How Today’s Divided Society Endangers Our Future (2012); and Jason Furman and Peter Orszag, “A Firm-Level Perspective on the Role of Rents in the Rise in Inequality,” Presentation at a Just Society Centennial Event in Honor of Joseph Stiglitz, Columbia University (Oct. 16, 2015).

39 See, e.g., Jonathan B. Baker and Steven C. Salop, “Antitrust, Competition Policy and Inequality,” 104 Geo. L.J. Online 1 (2015). See infra notes 45 and 46 for discussions of network effects and returns to scale.

40 See, e.g., David H. Autor et al., “The Fall of the Labor Share and the Rise of Superstar Firms,” Q.J. Econ. (coming).

41 See, e.g., José Azar, Martin C. Schmalz, and Isabel Tecu, “Anticompetitive Effects of Common Ownership,” 73 J. Fin. 1513 (2018).

42 See, e.g., Lina M. Khan and Sandeep Vaheesan, “Market Power and Inequality: The Antitrust Counterrevolution and Its Discontents,” 11 Harv. L. & Pol. Rev. 235 (2017).

43 Tax scholars in general have begun paying more attention to the relationship of tax and market concentration. See, e.g., Joseph Bankman, Mitchell Kane, and Alan Sykes, “Collecting the Rent: The Global Battle to Capture MNE Profits,” 72 Tax L. Rev. (coming 2020) (comparing policies for capturing multinational corporations’ rents). See also Louis Kaplow, “Market Power and Income Taxation” (working paper, 2019) (discussing the relationship between rents and taxes on labor income). But to our knowledge, the interaction of rents-focused taxes and a reduction in the use or effectiveness of antitrust strategies had not been explored in detail prior to this article.

44 Avi-Yonah, “Antitrust and the Corporate Tax: A Missed Opportunity?” (working paper, 2020).

45 For example, large areas of the tech sector feature important network effects. This means that a product becomes more useful by having more users, as with a social network like Facebook. Likewise, tech companies often enjoy significant positive returns to scale, which occurs when they are able to spread fixed costs across a large number of customer-users with little marginal cost. Consider, for example, Google’s algorithm: It would cost almost the same to develop and deploy it whether Google had 1 million or 1 billion users per day.

46 One source of returns to scale is that it can be easier to develop better products when more people use your product. For example, Google’s director of research once famously said, “We don’t have better algorithms than anyone else; we just have more data.” Scott Cleland, “Google’s ‘Infringenovation’ Secrets,” Forbes (Oct. 3, 2011).

47 The experience with direct regulation is mixed. See, e.g., Alfred E. Kahn, “Airline Deregulation — A Mixed Bag, but a Clear Success Nevertheless,” 16 Transp. L.J. 229 (1987).

48 Not all companies that may be earning rents report large taxable incomes today. Some companies (e.g., Amazon) plow back much of their profits into new expensed investment, reducing taxable income now. But if these projects earn rents, they will be hit at the statutory rate in the future. Also, many companies (e.g., Apple) have used profit shifting to reduce taxable income to well below their “true” U.S. cash flows. This highlights the importance of international avoidance, but the large size of the estimated cash flow base reveals important limits to this phenomenon as well.

49 Note as well that a tax that raises the marginal costs of monopolists will often be less efficient than a similar tax on a competitive industry because it exacerbates the monopolist’s underproduction of output. See, e.g., Andy H. Barnett, “The Pigouvian Tax Rule Under Monopoly,” 70 Am. Econ. Rev. 1037 (1980). A rents tax, however, does not raise marginal costs and is efficient. If a rents tax cannot be perfectly targeted on rents only, it may have some efficiency costs, which should be considered in setting the rates of the rents tax.

50 Nondeductible lobbying expenses include campaign contributions, any attempt to influence legislation, participation in a political campaign, any attempt to influence the public regarding elections or legislation, and any communication with specified executive branch officials. Section 162(e).

52 The nondeductible nonfinancial costs of rent-seeking may be a considerable deterrent to rent-seeking. For example, Thomas Piketty, Saez, and Stefanie Stantcheva find that higher top labor rates are associated with less rent-seeking by CEOs, which they attribute to the nondeductible costs of that rent-seeking. Piketty, Saez, and Stantcheva, “Optimal Taxation of Top Labor Incomes: A Tale of Three Elasticities,” 6 Am. Econ. J.: Econ. Pol’y 230 (2014). These same costs may be nondeductible for both employees and businesses.

53 George Fane, “The Incidence of a Tax on Pure Rent: The Old Reason for the Old Answer,” 92 J. Pol. Econ. 329 (1984). But see Lily Batchelder, “The Shaky Case for a Business Cash-Flow Tax Over a Business Income Tax,” 70 Nat’l Tax J. 901, 919-920 (2017) (describing theory and empirical evidence for how companies may share some rents with workers). Some evidence suggests that rent sharing did not cause companies to redirect much of the windfall from the TCJA rate cut to workers. In one large survey, just 4 percent of companies reported that they had dedicated at least some funds from the rate cut to employee salary. See Vanessa Fuhrmans, “Business News: Tax Cuts Have Limited Effect on Pay,” The Wall Street Journal, Oct. 3, 2018 (reporting this and other similar surveys). Companies seem unlikely to be hesitant to report they have increased wages because of the TCJA, so this survey data seems telling.

54 Arnold C. Harberger, “The Incidence of the Corporation Income Tax,” 70 J. Pol. Econ. 215 (1962).

55 See, e.g., Jennifer Gravelle, “Corporate Tax Incidence: Review of General Equilibrium Estimates and Analysis,” 66 Nat’l Tax J. 185 (2013) (reviewing analyses using Harberger’s model and concluding that labor bore about 40 percent of corporate taxes on the normal return).

56 Fox, supra note 26, contains a more detailed exploration of this issue and comparison to Harberger-style models.

57 Section 1(h). In principle, Zuckerberg is subject to capital gains taxes on sales of his stock and personal taxes on dividends at the capital gains rate, but Facebook has never paid a dividend. Donna Fuscaldo, “Facebook: First FANG Stock to Pay a Cash Dividend?Investopedia, June 25, 2019. Zuckerberg holds about 12 million class A shares and 365 million high-vote class B shares. Facebook Inc., “Proxy Statement” (Apr. 12, 2019).

58 Kleinbard, “Corporate Capital and Labor Stuffing in the New Tax Rate Environment,” University of Southern California Research Papers Series No. C13-5 (2013).

59 Shawn Bayern, “An Unintended Consequence of Reducing the Corporate Tax Rate,” Tax Notes, Nov. 20, 2017, p. 1137; and David Kamin et al., “The Games They Will Play: Tax Games, Roadblocks, and Glitches Under the 2017 Tax Legislation,” 103 Minn. L. Rev. 1439, 1445 (2019).

60 See, e.g., Joshua D. Rosenberg, “The Psychology of Taxes: Why They Drive Us Crazy, and How We Can Make Them Sane,” 16 Va. Tax Rev. 155 (1996).

61 From 2004 to present, 60 percent to 70 percent of Gallup respondents have said that corporations pay too little in taxes. Gallup, “Taxes” (last visited Sept. 27, 2019). In a 2017 Politico survey, only 34 percent of respondents approved of the TCJA corporate tax cut. Aaron Lorenzo, “Corporate Tax Cut Unpopular With Voters, Poll Shows,” Politico, Sept. 6, 2017.

62 See, e.g., Liam Murphy and Thomas Nagel, The Myth of Ownership: Taxes and Justice (2002); Steven M. Sheffrin, Tax Fairness and Folk Justice (2013); Matthew Weinzierl, “Popular Acceptance of Inequality Due to Innate Brute Luck and Support for Classical Benefit-Based Taxation,” 155 J. Pub. Econ. 54 (2017); and Zachary Liscow, “Redistribution for Realists” (working paper, 2020).

63 See supra note 14.

64 Transfer pricing manipulation involves mispricing transactions between related entities in a manner that shifts profits from one jurisdiction to another. For example, a multinational corporation “can charge a lower price when selling to a related party in a low-tax country,” reducing the profits booked in the high-tax jurisdiction and increasing the profits booked in the low-tax jurisdiction. Li Liu, Tim Schmidt-Eisenlohr, and Dongxian Guo, “International Transfer Pricing and Tax Avoidance: Evidence From Linked Trade-Tax Statistics in the UK,” Board of Governors of the Federal Reserve System, International Finance Discussion Papers No. 1214 (2017).

65 See, e.g., Julie A. Roin, “Inversions, Related Party Expenditures, and Source Taxation: Changing the Paradigm for the Taxation of Foreign and Foreign-Owned Businesses,” 2016 BYU L. Rev. 1837, 1856-1858; section 163(j); and reg. section 1.385-1 to -4.

66 See sections 59A, 951A, and 7874; and Donald Marples and Jane Gravelle, “Corporate Expatriation, Inversions, and Mergers: Tax Issues,” Congressional Research Service, RR43568 (Mar. 2019). Mechanically, inverting will not itself usually change the sourcing of profits but instead reduces taxable income in the United States by eliminating U.S. tax on non-U.S.-source income taxable today under the global intangible low-taxed income regime for a U.S. domiciled company but not for the now inverted (and thus) foreign domiciled company. Moreover, inversion opens the door for additional profit shifting out of what was U.S.-source income because doing so is now no longer deterred by GILTI (although that shifting may still be limited somewhat by the base erosion and antiabuse tax). GILTI and the BEAT are discussed in more detail later.

67 Devereux and Griffith, supra note 14.

68 Section 172. Note that the Coronavirus Aid, Relief, and Economic Security (CARES) Act (P.L. 116-136), passed in reaction to COVID-19, temporarily loosened these restrictions. See EY, “Corporate Implications of the CARES Act” (Apr. 16, 2020).

69 Michael G. Cooper and Matthew J. Knittel, “The Implications of Tax Asymmetry for U.S. Corporations,” 63 Nat’l Tax J. 33 (2010).

70 Cooper et al., “Business in the United States: Who Owns It and How Much Tax They Pay,” 30 Tax Pol’y & Econ. 91 (2016); and Scott Eastman, “Corporate and Pass-Through Business Income and Returns Since 1980,” Tax Foundation (Apr. 23, 2019). Also, as private capital markets have become more liquid, the relative benefits of being public for many businesses have shrunk over time.

71 As well, start-ups funded by venture capital often organize as C corporations rather than as passthroughs, for reasons including minimizing legal and organizational costs, the ability to provide compensation through stock options, and the prevalence of tax-exempt institutional investors. Bankman, “The Structure of Silicon Valley Start-Ups,” 41 UCLA L. Rev. 1737 (1994). See also Gregg Polsky, “Explaining Choice-of-Entity Decisions by Silicon Valley Start-Ups,” 70 Hastings L.J. 409 (2019).

72 See Ari Glogower and Kamin, “The Progressivity Ratchet,” 104 Minn. L. Rev. 1500 (2020).

73 See supra note 4; and Treasury, supra note 11.

74 Kyle Pomerleau, “An Overview of Pass-Through Businesses in the United States,” Tax Foundation (Jan. 21, 2015) (showing that the vast majority of passthroughs are sole proprietorships, are generally smaller than C corporations, and are concentrated in the service sector rather than in manufacturing and trade).

75 Matthew Smith et al., “Capitalists in the Twenty-First Century,” 134 Q.J. Econ. 1675 (2019).

76 Auerbach, “Who Bears the Corporate Tax? A Review of What We Know,” 20 Tax Pol’y & Econ. 1 (2005). For public companies, shareholders can fairly easily diversify by holding many companies in their portfolio. Thus, the government — through cash flow taxation — will not be a much superior risk bearer to the marginal diversified shareholder. But for private companies, the marginal shareholder is subject to sizable idiosyncratic risk that the government diversifies away by holding in its “tax portfolio” a large number of companies.

77 Daniel N. Shaviro, “Evaluating the New U.S. Pass-Through Rates,” 2018 Brit. Tax Rev. 49 (2018).

79 See Batchelder, supra note 53.

80 For example, consider a nontaxable investor-owner (the principal) like a university or pension fund. Money that the investor expends monitoring agents at companies in its portfolio may raise profits at those companies, but the amount of those profits that the investor captures falls as the corporate tax rate rises. By contrast, the investor gets no tax benefit from incurring the monitoring costs, because its costs are nondeductible. Thus, it may do less monitoring with a higher corporate tax rate.

81 Increasing revenue by taxing rents should leave private actors better off than raising similar revenue through other mechanisms because taxing rents is more efficient.

82 On the other hand, given the tilt in our social welfare policies toward older Americans, some might not find it desirable to offset the effect of a one-time introduction of higher cash flow taxes.

84 The BEAT has been subject to criticism as poorly targeted to its goals. See, e.g., Martin A. Sullivan, “10 Reasons Congress Should Revisit the BEAT,” Tax Notes, June 18, 2018, p. 1701; and Michael J. Graetz, “The Future of the New International Tax Regime,” 24 Fordham J. Corp. & Fin. L. 219, 267 (2019) (“There is a question as to whether [the BEAT] ought to be fixed or ought to be eliminated. I do not think it can be fixed in its current form.”). The BEAT has strong defenders as well. See, e.g., Bret Wells, “Get With the BEAT,” Tax Notes, Feb. 19, 2018, p. 1023.

85 Section 951A. The design of GILTI has also been questioned. Some criticize GILTI as overly harsh, particularly in its treatment of foreign tax credits and measurement of intangible income. Others criticize GILTI in the opposite direction — as too lenient — because of its allowance for cross-crediting from high- to low-tax-rate countries, frequent understatement of intangible income, narrow focus only on intangible income, and low rate. Gravelle and Marples, “Issues in International Corporate Taxation: The 2017 Revision (P.L. 115-97),” CRS, R45186, at 35-38 (Apr. 23, 2020).

86 The CBO recently reduced its estimate of how much money would be raised by the international provisions of the TCJA, including the BEAT and GILTI, over the next decade by about $100 billion, citing taxpayers’ responses to the law and the regulations implementing those provisions. It emphasized, however, the uncertainty remaining in its current estimates. See CBO Director Phillip L. Swagel, “Recent Changes in CBO’s Projections of Corporate Income Tax Revenues,” CBO Blog (Feb. 7, 2020).

87 See Shaviro, Fixing U.S. International Taxation (2014); Office of Management and Budget, “Fiscal Year 2016 Budget of the U.S. Government” (2016) (presenting the Obama administration’s proposal for a minimum tax of 19 percent of foreign income on a per-country basis with partial crediting of foreign taxes). Under the TCJA, GILTI income is subject to tax with only a partial allowance for foreign tax credits. Section 951A.

88 Note that the various reforms may to some extent work at cross purposes. One goal in restricting an inversion is to prevent foreign economic activity currently part of a U.S. company from becoming part of a non-U.S. company (i.e., the inverted company). Increasing effective rates on foreign profits, however, may put U.S. companies at a disadvantage when investing abroad, so that more economic activity abroad ends up being done by non-U.S. companies, akin to what might happen under the inversion. Cf. Mihir Desai and James Hines Jr., “Evaluating International Tax Reform,” 56 Nat’l Tax J. 487 (2003).

89 See, e.g., Scott DeAngelis, Note, “If You Can’t Beat Them, Join Them: The U.S. Solution to the Issue of Corporate Inversions,” 48 Vand. J. Transnat’l L. 1353 (2015) (arguing that the proposed changes to section 7874 would not deter inversions).

90 See, e.g., Dhammika Dharmapala, “Do Multinational Firms Use Tax Havens to the Detriment of Other Countries?” Working Paper, at 34 (2019).

91 OECD, “Global Anti-Base Erosion Proposal (“GloBE”) — Pillar Two” (Nov. 8, 2019 - Dec. 2, 2019).

92 Rodrik, “What Do Trade Agreements Really Do?” 32 J. Econ. Persp. 73 (2018).

93 Auerbach et al., supra note 8. A related but distinct approach is for corporate taxes to be based on global income apportioned by the location of sales. See, e.g., Clausing, “Taxing Multinational Companies in the 21st Century,” in Tackling the Tax Code: Efficient and Equitable Ways to Raise Revenue 237 (2020); and Avi-Yonah, Clausing, and Michael C. Durst, “Allocating Business Profits for Tax Purposes: A Proposal to Adopt a Formulary Profit Split,” 9 Fla. Tax Rev. 497 (2008).

94 Further, note that although a DBCFT resembles a VAT in many ways, the predicted incidence of the taxes is quite different. A VAT is generally thought to be borne by all consumers in proportion to their consumption. A DBCFT, as a cash flow business tax, will likely be largely borne by capital owners (rent-financed consumption). Thus, a DBCFT with a high rate may fit more easily into a progressive tax system than a VAT with a high rate.

95 See Graetz, “The Known Unknowns of the Business Tax Reforms Proposed in the House Republican Blueprint,” 8 Colum. J. Tax L. 117 (2017). But on treaty compatibility, see Itai Grinberg, “A Destination-Based Cash Flow Tax Can Be Structured to Comply With World Trade Organization Rules,” 70 Nat’l Tax J. 803 (2017).

96 See Urban-Brookings Tax Policy Center, “Amount of Revenue by Source,” supra note 15.

97 See, e.g., OECD, “OECD Secretary-General Tax Report to G20 Finance Ministers and Central Bank Governors,” at 16 (Feb. 2020) (affirming “the importance of the worldwide implementation of the G20/OECD Base Erosion and Profit Shifting (BEPS) package” and discussing “the important work which remains to be carried out”).

98 Section 172(a)(2)(ii) and (b)(1)(A) (imposing an 80 percent limitation on the amount of taxable income NOLs can absorb in a year and ending NOL carryback). For example, the more generous treatment in the CARES Act could be extended.

100 Sections 263 and 263A.

101 Recall that for a project earning the normal return, the government provides an upfront investment of τ to the company, and (without interest deductions) collects taxes with a present value of τ over the life of the project. In practice, this exempts the normal return. If interest deductions are allowed for loans made by tax-exempt entities, the government collects less than τ over the life of the project in taxes and is in practice subsidizing those projects. See Institute for Fiscal Studies, “The Structure and Reform of Direct Taxation” (1978) (explaining that under the R-base cash flow tax that our system most closely resembles, interest should not be deductible or includable).

102 Financial firms are an exception because they are in the business of adding value through providing loans, so excluding their interest from taxation would leave the services they provide undertaxed.

104 This conclusion is strengthened by the empirical uncertainty about the impacts of corporate tax reform arising from both the difficulty of finding good natural experiments and the changing domestic and international features of the corporate tax. Auerbach, “Measuring the Effects of Corporate Tax Cuts,” 32 J. Econ. Persp. 97 (2018).

105 See, e.g., Auerbach et al., supra note 8; and Auerbach and Devereux, “Cash-Flow Taxes in an International Setting,” 10 Am. Econ. J.: Econ. Pol’y 69 (2018). Many scholars dispute that moving to a destination basis will in fact close off nearly all shifting of profits and real activity. See, e.g., Avi-Yonah and Clausing, “Problems With Destination-Based Corporate Taxes and the Ryan Blueprint,” 8 Colum. J. Tax L. 229, 247-249 (2017).

106 See Urban-Brookings Tax Policy Center, “Marginal Corporate Tax Rates, 1942-2020” (Mar. 25, 2020). Real per-capita annual GDP growth averaged 2.5 percent per year from 1950 to 1980, while it has been 1.7 percent since. Authors’ calculation based on data from St. Louis Fed (FRED).

107 Fox, supra note 26, at 104-115.

108 OECD, “Statutory Corporate Tax Rate” (Jan. 2020).

109 Steven M. Rosenthal and Lydia S. Austin, “The Dwindling Taxable Share of U.S. Corporate Stock,” Tax Notes, May 16, 2016, p. 923. We put aside here a longer discussion of what would be the appropriate treatment of corporate income at the personal level.


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