Reprinted from our December 2017 Publication

To our great surprise, the Republican legislature appears close to passing tax reform. As recently as the previous forecast publication, we argued that the probability of such reform was low and rapidly vanishing along with healthcare reform. We noted, at the time, that Republicans lack the political skill (or even the most basic communication skills) required to sell reform ideas to the American people. Our prediction may still prove correct, yet a bill has emerged from the House-Senate conference that includes a few of our top reform priorities.

The elements of the Republican tax reform package that really grab our attention are the changes proposed for the corporate tax system. The conference bill includes both a significant reduction of the corporate tax rate and a one-time, modest repatriation tax for income earned overseas by U.S. companies. Perhaps most importantly, the package also moves the United States to a territorial system which only taxes American companies’ foreign earnings at the statutory rate where the income is earned. Together, these reforms would reduce the cost of doing business in the United States and would eliminate the considerable disadvantage that the current tax system creates for U.S. companies relative to their foreign competitors. The result will be increased economic growth, greater job creation and higher wages.

The one-time repatriation tax may even produce a temporary tax revenue windfall. U.S. companies currently hold over $2.5 trillion of cash in foreign banks. Under the current tax system, the U.S. treasury collects no revenue as long as the money remains abroad. If even one dollar of that 2.5 trillion returns to the United States, it will produce additional investment and additional tax revenue. The proposed repatriation rate of 15.5 percent seems quite high (it may actually be the case that a lower rate would produce a higher level of repatriation and greater revenue), however the current proposal would be a considerable improvement over the status quo.

If the conference bill passes, the corporate rate will be reduced from 35 percent to 21 percent. At that level, the United States will still tax corporations at a higher rate than the European average of 19 percent.  But, the United State will, at long last, relinquish the title of highest tax rate in the Industrialized World to proverbial tax champion, France. At 35 percent, the current U.S. statutory rate is the highest among all OECD member countries and more than 11 percent (4 percentage points) higher than 2nd place France. France is a country that, not long ago, experimented with a 75 percent top marginal tax rate. So, bon débarras. We would gladly let them take the highest corporate tax rate title from the U.S.

Unfortunately, the reduction in the corporate rate is being reported as a massive tax cut for the rich.  The Huffington Post referred to it as a “massive corporate giveaway.” The Washington Post said it’s “the most insane giveaway to the rich ever.” Not only are these descriptions wrong, they’re utterly backwards. The group who will benefit the most is the American Middleclass, about whom the Huffington Post and Washington Post claim to be concerned.

This raises an important issue referred to as the incidence of taxation.

One of the great questions in tax policy is who actually bears the burden of higher taxes—and likewise, who reaps the benefits of lower taxes. In the case of personal income taxes, the effect of the tax is fairly obvious and direct—except where individuals can alter the type of income that they receive or switch tax jurisdictions altogether, the incidence of personal income tax is, not surprisingly, on the individual. If the government raises your personal income tax rate, you pay more to the government. In the case of corporate taxes, the effect is not so simple.

A corporation is little more than a pass-through device for both the costs and the benefits of productive economic activity—think of a corporation as a sophisticated coordinating mechanism which harnesses the collective efforts of many individual economic actors. Taxes are merely a cost of doing business. The question of corporate tax incidence is, which of the various types of actors who make up the corporation bear the cost of taxation. Among tax economists, there has been considerable debate over the years regarding whether taxes are passed through to investors or are borne by individual laborers who make up the company’s employees.

While theoretical studies have produced mixed results, empirical studies of corporate taxes are clear and consistent: there is a strong negative correlation between the corporate tax rate and employee wages. Corporate taxes are not borne by wealthy investors who hold company stock (and although you might like to think so, they’re certainly not borne by millionaire CEOs and other ivory tower executives). The corporate tax is borne by labor, in the form of lower wages and other forms of compensation.  One study examining corporate taxes among 72 different countries came to a particularly striking conclusion: a 10 percentage point increase in the corporate tax rate leads to a 25 percent reduction in wages (Hassett & Mathur, 2006). Increases in corporate taxes harm workers. Likewise, the benefits of reducing the U.S. corporate tax rate from 35 percent to 21 percent will be enjoyed most heavily by workers. The corporate tax reforms currently proposed by Congress will provide a major boost to the Middleclass.

Readers who are skeptical of this claim are encouraged to read the considerable academic literature themselves. Hassett & Mathur (2006), Felix (2007), Desai et al. (2007), and Arulampalam et al. (2009), are a good place to start.  Full citations for these papers follow at the end of this essay.

To repeat, the corporate tax reforms currently included in the House-Senate Conference bill are pro-growth reforms which will boost economic activity and elevate middleclass households in America.

To be clear, there is also plenty not to like in the tax reforms proposed by Congressional Republicans. The House version of the tax bill would impose a 20 percent excise tax on payments made by U.S. corporations to foreign subsidiaries. This would harm U.S. companies in a number of industries ranging from bio-technology to automobile manufacturing and would surely impact American households in the form of increased consumer prices. The negative effect of the excise tax on some workers could completely offset the gains from the reduction in the corporate tax rate. The Senate version would impose a first-in, first-out accounting rule for capital gains taxation, which represents a massive capital gains tax increase for many Americans. This reform would distort investment decisions and likely result in less capital gains tax revenue overall. Fortunately, these negative elements of the bill are strictly dominated by the positive ones. The net effect for the U.S. economy will still be positive. All the same, we will be watching closely to see if any of these destructive measures are included in the conference bill that finally receives a vote.

Even with much to recommend regarding the current reform package, we remain fairly skeptical that Republicans can make an effective sales pitch and move the proposed tax reforms across the finish line. With arguments over the treatment of state and local taxes (even living in California, we favor the Republican proposal to eliminate the deduction of so-called SALT) and the level of refundable child tax credits dominating media reporting and water cooler debates, we don’t see how Republicans can summon the 51 Senate votes needed for passage. This is unfortunate.

Failure to pass meaningful corporate tax reform will be a sucker punch to hard-working, middleclass Americans.


Arulampalam, Wiji, Michael P. Devereux, and Giorgia Maffini. 2009. “The Direct Incidence of Corporate Income Tax on Wages.” Oxford University Centre for Business Taxation Working Paper 09/17.

Desai, Mihir A., C. Fritz Foley, and James R. Hines Jr. 2007. “Labor and Capital Shares of the Corporate Tax Burden: International Evidence.” International Tax Policy Forum, Urban-Brookings Tax Policy Center. December

Felix, R. Alison. 2007. “Passing the Burden: Corporate Tax Incidence in Open Economies.” Regional Research Working Paper RRWP 07-01, Federal Reserve Bank of Kansas City.

Hassett, Kevin A. and Aparna Mathur. 2006. “Taxes and Wages.” AEI Working Paper 128. June.