Today’s entry: @brianmuddradio What does that 15% minimum corporate tax actually do? How much does it raise the current tax?
Bottom Line: If there’s anything more convoluted than attempting to understand personal tax law, it’s corporate tax law. Now, most of the complications with tax law personal, or corporate, stem from itemized deductions. There were many net positives associated with 2017’s Tax Cuts and Jobs Act, aka the Trump tax cuts, but among the biggest was dramatically reducing the number of deduction loopholes (personal and corporate), and the doubling deductions for personal income fliers in return. Specific to personal income tax filers, the changes have resulted in a 59% reduction in those filing itemized deductions. This has resulted in huge time savings for families not having to account for all of the documentation on potentially deductible stuff during the year, saves significant money on tax preparation, dramatically reduces audit risk, and yes – for almost all families resulted in a lower tax burden as well. That’s a win-win-win. And the net effective federal tax rate, post deductions looks like this:
- 13.3% overall
- 3.4% for bottom 50%
- 14.6% for the top 50%
Now, the changes for corporate taxes were similar in philosophy while obviously different given the significantly different variables. In other words, simplified tax policy at generally lower rates. Without getting into the weeds, the top corporate tax rate dropped from 35% to 21% and the use of deductions were significantly limited. This is evidenced by the net effective corporate tax rate for last year which was 19.7%. With a corporate tax rate of 21%, what’s illustrated is that deductions used by companies currently only reduce the tax burden of companies by a small 1.3%. At the same time, when compared to net effective personal income tax rates, we see that corporations are taxed at a net rate that’s over 6% higher than individuals. What’s ironic, from a political perspective, is that the left has long called for wealthier individuals to pay much higher rates than average households, that’s happened, with the top half of Americans paying a rate that well in excess of 4x the rate of the bottom half. They’d also called for corporations to shoulder a larger burden than individuals, while I could get into a discussion regarding how corporations are people, I’ll not wander down that path and simply say – that too has happened. The reason I felt it was important to discuss those points prior to wading into the rest of the discussion is because it’s important to understand what’s happening prior to understanding what changes would represent, and in the case of the 15% tax proposal, why it's on the table. So, about that...
The proposal for a 15% minimum corporate tax rate isn’t new to the conceptual deal agreed to by Senators Manchin and Schumer. It was part of President Biden’s original BBB proposal. Should the actual proposed legislation include the language the original did, and as publicly discussed that’s to be the case, I’m able to break it down pretty simply. As I already mentioned, companies aren’t really wiggling out of much with deductions, so what’s really going on here? The definition of what income is.
Senator Manchin is defending his decision to support this legislation, insisting it really isn’t a tax increase, it's just a matter of closing tax loopholes. Just as the left has been trying to redefine what the definition of “recession” is. They’re now actively seeking to redefine what the definition of loopholes are. What this is mostly about is stock based compensation. Stock based compensation is taxed differently, more favorably, than personal income under corporate accounting rules. As a result, most publicly traded companies include stock-based comp plans as incentives for employees. These stock plans, which must be approved by the boards of directors and by shareholders, are most commonly issued as bonuses – which are then taxed at the personal level. What the legislation aims to do is capture taxes at the corporate level on stock plans as well.
The left has long held examples of CEO’s of top companies getting huge stock awards as a problem which needs to be addressed. This is really the crux behind this proposal. What the plan is largely about is disincentivizing stock-based comp plans. On the surface that might not seem to be a bad idea. Incidentally, I agree that there are a number of companies which are too free with award plans for top executives, though I view that as a failure of the board of directors and shareholders as opposed to a situation requiring a federal government “fix”. But here’s the rub and it’s a big one. As is often the case there’s a vast difference between what makes headlines and reality on the ground.
According to data from the National Bureau of Economic Research, 78% of stock-based compensation goes to employees as opposed to executives. If you’ve ever worked for a publicly traded company in a full-time capacity, you’ve likely participated directly, or have been offered the opportunity to participate in a form of stock-based incentives. These commonly come in the form of options and or grants for hitting performance targets – to being able to buy company stock at a discount to the market price. So, stock-based compensation is mostly – in excess of three-quarters - about rank-and-file employees who often count on these incentives as part of their total compensation. It is as intellectually dishonest to suggest this is about having companies “pay their fair share”, as it is for these same actors to suggest we’re not in a recession. As a result, this acts as a tax increase, but not so much on companies as their employees. As companies would no doubt need to dramatically reduce comp plans going forward to account for the meaningful tax increases associated with the policy change. As always, there are two sides to stories and one side to facts. These are the facts.
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