Thursday, February 23, 2017

Leveling the International Corporate Tax Playing Field

William O'Keefe

Tax reform is getting well-deserved attention in Congress because of its importance to stronger economic growth.  Corporate tax reform is seen as an essential component to reforming the tax code if stronger economic growth is going to be achieved and maintained.
It has been over 30 years since the last major tax reform and the world has changed greatly over that time.  The economy has become truly global and our economic success is directly related to our ability to compete on an international basis.  The House Ways and Means Committee has produced a plan—A Better Way—that would make a strong contribution to the success of U.S. companies in the global market.

One of the provisions of that plan—border adjustment—has stirred a lot of comment within the business community and there has been the predictable rhetoric from companies that want to maintain the status quo. Claims that alleged costs of border adjustment will be borne by American consumers are an oversimplification as well as misleading. Currently, our playing field is tilted in favor of foreign competitors and against U.S. exporting firms, and maintaining the status quo would keep this system in place.
A majority of OECD countries use a Value Added Tax (VAT) to impose taxes at each stage of production. Under European VATs, for example, companies are not taxed on their exports, thereby making exports cheaper.  U.S. companies that export currently get no such forgiveness, which puts them at a competitive disadvantage.  With border adjustment, imports would face a 20% tax and exports would no longer be taxed.
Opponents of border adjustment argue that domestic consumers would face higher prices because of the tax on imports.  Their argument is based on the assumption that an import tax would be passed through to consumers.  In a competitive market place that is anything but assured.
The late radio commentator, Paul Harvey, used to say “and now for the rest of the story”.  Here is the rest of the story concerning the effect of border adjustment.  Tax reform would lower the corporate tax rate from 39 percent, the highest in the developed world, to 20 percent.  The average worldwide corporate tax rate has dropped from 30 percent to 22.5 percent since 2003.  That makes our top corporate rate 73 percent higher than the average for our competitors.
The lower tax rate would have two effects.  First, it would reduce the exit of companies. They would have less incentive to seek ways to “invert”—become foreign corporations—to avoid higher taxes. That would avoid the potential loss of corporate tax dollars.  Second, the lower rate combined with border adjustment would, according to most economic analyses, strengthen the dollar, which would lower the cost of imports.  In a January 5 Wall Street Journal op-ed, Harvard economics professor Martin Feldstein provided a detailed explanation of border adjustment and why it would not impose higher costs on consumers.
The Tax Foundation’s analysis of the Tax Reform Blueprint concluded that it “would raise American GDP by 9.1 percent in the long run, lift wages by 7.7 percent, and add some 1.7 million jobs.”  The economic benefits of comprehensive tax reform are so great that every member of the House and Senate should make it their number one priority.  They should be guided by criteria that lower financial burdens on workers and business, simplifies the tax code, and provides a genuine level playing field.
The Tax Reform Act of 1986 demonstrated how difficult it is to undo  complexity and treat all taxpayers fairly.   The challenge will be no less difficult this year, especially with all of the usual competing interests. It’s up to Congress to tune out the noise and pass comprehensive tax reform so that Americans can realize the economic growth benefits sooner rather than later.

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