By Mihir A. Desai (The New York Times):
Advocates of taxing multinational firms more heavily must overcome two considerable intellectual obstacles.
First, the rhetoric of corporations “paying their fair share” is powerful but vacuous. Corporate taxes are borne by either shareholders, workers or consumers as all taxes are borne by people, not legal entities. In a world of highly mobile capital and products, economic theory and empirical evidence indicate that the least mobile factor — labor — will bear the corporate tax. In short, lowered investment leads to less productive workers and lower wages. Ironically, advocates of higher corporate taxes are likely hurting the people they think they’re helping. Progressive consumption taxes are a much wiser alternative.
Second, the logic of taxing the overseas income of our firms is similarly shaky. The U.S. is now alone in having such a “worldwide” system and we do it in a particularly ineffective way as U.S. taxes are due only when profits are brought home. Unsurprisingly, American corporations keep more than a trillion dollars overseas in cash. The current system is enormously complex, diverts investment away from the U.S. and rewards tax planning and rent-seeking, rather than productive activity.
Restricting taxation to income earned in the U.S. is superior. Such a “territorial” system ensures that corporations are competing globally on the basis of their underlying performance attributes rather than their tax attributes, as each firm faces the same, local tax rate. Corporations can also now readily change their national identities readily via expatriations or mergers. If the U.S. is alone in using a worldwide system, we will lose the valuable headquarter activities of our corporations.
The typical logic for taxing overseas income — that investment abroad represents lost investment at home — also doesn’t appear to have much empirical traction. In fact, firms expanding abroad also expand at home, as the creation of foreign opportunities leads to greater domestic employment via greater export, research and development, and headquarter activities. Penalizing and demonizing our corporations who succeed globally is actually counterproductive.
Show trials and muckraking are powerful catalysts for change but they can also lead us astray. A simpler corporate tax featuring a lower rate and a territorial base — funded by taxes on pass-through entities and greater alignment between the profits reported to capital markets and tax authorities — provides the most sensible path forward.
Mihir A. Desai is the Mizuho Financial Group professor of finance at the Harvard Business School and the senior associate dean for planning and university affairs.