Federal corporation income tax rates are an issue in our capacity to develop and maintain jobs in the United States. These tax rates were an issue in our recent presidential campaign. John McCain recommended reducing corporate tax rates in the United States to strengthen our international competitive position, and I think that he was correct in doing so. We have the second-highest corporate tax rate in the world, exceeded only by Japan, which has a top rate of 39.59 percent compared to our 39.3 percent. (The rates reflect combined national and lower jurisdiction rates, i.e. the average state and city rates in the U.S.) As a result of differing state corporate rates, a corporation headquartered in Iowa pays a top statutory rate of 47 percent of its taxable income while one headquartered in Washington s pays only the 35 percent federal rate.

The rates charged by the states vary (the state tax is normally a deductible business expense for the purposes of determining the federal tax due). It should be obvious that just as U.S.- based corporations would probably prefer to be in Washington rather than Iowa, other considerations being equal, an international corporation would prefer to be headquartered in Mexico or the United Kingdom where the top corporate rate is 30 percent, or perhaps in Ireland where the top rate is 12.5 percent.

Of course, corporate taxes are paid through corporations, but their costs actually are paid by the people and businesses using the services of the corporations. Corporations that do not make money do not pay income taxes. But those that do make money pass the tax on to the users of their services in the form of higher prices. If corporation taxes were lower, profitable corporations headquartered in the U.S. would be more profitable, and they could use their greater profits in a number of ways including returning more money to their shareholders or paying their employees more (which in either case would produce some taxes to offset the reduced corporate tax).

Corporations also might reinvest some of the funds freed up by lower corporate taxes in growing their businesses, which should increase the taxable income of some other business or person in the food chain, and hopefully, in due course, increase their own taxable income.

With a little luck the increased profitability of our corporations resulting from lower taxes would increase the value of such companies compared to foreign companies and would raise the value of their stocks, which would benefit everyone owning such stocks including pension plans, individuals, 401(k) plans and charitable endowments.

For some reason it seems to appeal to many of us to “stick it to” big corporations because they are big and appear to have a great deal of wealth despite the fact that their wealth benefits many of us indirectly through our personal, corporate or government retirement programs. High corporate tax rates make it more expensive to do business in the United States compared to most other countries and encourage American companies to relocate to lower tax jurisdictions.

These higher tax rates have been justified in part as a proper price paid by foreign companies for the privilege of doing business in our great market. If this argument ever made sense, it makes much less in our new, flat world. We should reduce the rate of our corporate income tax, and Iowa might want to take a closer look at its corporate tax policies as well. If we reduce the corporate income tax rate we should at the same time re-examine all of the many tax breaks doled out to business over the years and eliminate those that are not in the public interest in order to recapture some of the income that would be lost by reducing the overall income tax rate.

While we are on the subject of the federal taxation of corporations, let me raise one more issue about our corporate tax policies. It has been widely recognized for decades that we should not tax corporate dividends twice—once on the corporate income from which they are paid and again as taxable income to the shareholders

who receive them. Taxing them twice creates a strong tax preference for financing corporations with debt instead of equity. If a corporation wanting to expand its operations were to raise $1 million by issuing common or preferred stock, the dividends paid are taxable as income to the shareholders, but are not deductible to the corporation as a business expense; hence the income used to pay the dividend is taxed twice. On the other hand, if a corporation borrowed $1 million to expand its operations the interest paid on the debt is not taxed to the corporation because it is treated as a deductible business expense. The money used to pay interest is taxed only once when it is received by the debt holder. As a consequence U.S. corporations are prone to use debt over equity to meet their capital needs. This has contributed to the over-leveraging of the American economy.

When I heard that then-President George W. Bush was going to change the taxation of corporate dividends I assumed that he was going to make the dividends tax deductible for corporations. I was surprised to learn that rather than fixing this corporate financing problem of double taxation of dividends he was only proposing to reduce the tax rate on dividends received by stockholders. This approach did nothing to improve the financial stability of our business corporations. To the contrary, it gave corporate raiders the opportunity to borrow large amounts of money at low rates in what was then an environment of abundant capital and to use the debt to pay themselves big dividends taxable at low rates. Consequently, rather than improving the financial health of our corporations this Bush tax change encouraged greater leverageing and risk taking, some of which is coming back to haunt us in the form of bad bank loans to corporations that became over-leveraged and/or bankrupt as a result.

Michael H. Trotter, Special to the Daily Report