Lower Taxes on Companies, not the Wealthy

Well, it is Tuesday, and I've been thinking about economics. One thing that my fellow conservatives always talk about is lowering taxes to stimulate the economy. I almost agree with this; however, I diverge from their thinking when they talk about lower taxes in individuals. That doesn't make sense to me, here's why: when taxes are lowered on individuals (rich, poor, or otherwise) the individual has more money in their pocket, and less to the government. (I do believe that the government should have as little money as possible, but no one wants to see their fellow man starving in the streets, either) It is not guaranteed that the individual is going to spend the money, spend it in the US, spend it on something legal, or any thing else that increases the economy.

What I think should be done is lower the taxes on companies, here’s why: taxes increase the cost of doing business to companies. From the direct cost of actually having to pay the taxes, to the indirect cost of having to hire firms, lawyers, tax experts, consultants, etc to come up with slick ways of avoiding taxes. (See a note below on how Enron used to dupe the government) By lowering the corporate tax rate from 35% to, say, 20% the overall cost of doing business will go down. This is important because the firms’ profit margins will go up. When a firm goes from a profit margin of 10% to 12.3% it makes the returns of the business more attractive, and more likely the shareholders will stay in and invest in the business. Another example of the benefits of a lower corporate tax rate is that firms will have more money in their pockets at the end of the year. Firms do not like to hold cash on hand (returns on cash investments are low), so they will invest the money, or pay it out as dividends. (Which are taxed at the personal income tax rate) All in all, it makes more sense to me to lower the income tax rate on companies more so than lowering it for individuals.

Another area I have been thinking about is how successful it has been for the U.S. economy to have a lower capital gains tax for individuals. The ability of individuals to invest the money has led to an explosion of in the Private Equity business over the last 15 years. This explosion has given us Starbucks, Google, eBay, Yahoo, multiple companies turned around, countless small to mid-sized companies, and other benefits. The corporate capital gains tax rate is set at the income tax rate for companies: 35%. This doesn’t motivate companies to take risks, invest in new tools, sell assets that have appreciated, and the other related financial activities that come with lower capital gains taxes. The explosive growth in the economy due to lowering of personal capital gains taxes more than offset the loss in revenue; and I believe that if the same is done with companies the growth engine of our economy will take off again.

Well, that is the extent of my musings on economics this week. Hopefully I will have an inspiration for next week.

Later,

B

I am so sorry for not adding the side bar when I first published this post.

SIDE BAR:

The Enron Example (courtesy of Merle Erickson's 30118 class), so Enron didn't want to pay capital gains taxes to the government. Here's how they did it using contingent liabilities. Enron creates a shell company and calls it something like FTIRS. They put $500 million in assets in the company, and the IRS recognizes that the firm is worth $500 million, and that is the tax basis Enron takes in the shell company. The folks at Enron are clever enough to know that the IRS does not recognize contingent liabilities, so Enron out $499 million worth of contingent liabilities into the shell company. You, me, and everyone else realize that the shell company is only worth $1 million ($500 million assets - $499 million contingent liabilities); however, the IRS, due to their recognition rules, still value the company at the original tax basis: $500 million. Enron finds some company to buy the shell at $1 million, AND the IRS allows them to recognize a $499 million capital loss. Thus Enron could claim $0 in capital gains (assuming they made $499 million on another investment) by claiming a synthetic $499 million loss. It was legal, the lawyers at Enron asked the IRS if this would fly, and the IRS said yes. Those guys were slick, tragically flawed, but slick.