Midway through September, Mitt Romney’s presidential campaign ran into some turbulence. Captured on a clandestine camera, Romney was found to have disparaged the alleged entitlement mentality of the 47 percent of Americans who pay no income tax. But even as Romney’s liberal critics rejoiced in his embarrassment, they seemed strangely unapologetic about their own brand of tax moralizing. The documentary We’re Not Broke is a prime example of such finger-wagging and moral indignation.
We’re Not Broke takes aim at non-payers of income tax, not ordinary Americans but multinational corporations. Of course, this distinction may appear to make a world of difference: Whereas Mr. Romney chastised the likes of janitors and single moms and retirees who don’t pay income tax, the filmmakers have a satisfying villain in big business. But the distinction between virtuous little guys and evil corporations does not withstand scrutiny. Janitors and single moms need jobs, so they want corporations to be healthy. Retirees who live on their savings have a direct interest in the corporate securities in their portfolios.
Romney, himself an accomplished tax-shelter technician, ought to have acknowledged that many ordinary Americans pay no income tax for the perfectly good reason that the law does not require them to do so. Likewise, the makers of We’re Not Broke ought to be straight about the fact that many multinational companies pay no income tax because the law allows them that option. The documentary makes much of Google’s tax shenanigans; apparently, a quarter of the search giant’s profits can be traced to a maneuver that cut its taxes by shifting profits into overseas havens. The fact that Google’s deal was legal does not appear to count as a defense.
Ordinary Americans may feel insulted by Romney’s comments because not paying income tax is different from not paying any tax. Most obviously, modestly paid workers send the government about 6 percent of their earnings in the form of Social Security taxes. But multinational corporations also pay tax even if they do not pay income tax—indeed, their obligations start with the employer’s portion of the Social Security levy. Forest Laboratories, a drug company featured in the documentary, reportedly has virtually all its workforce and sales in the United States but most of its profits in Bermuda, where the corporate tax rate is zero. But contrary to the implication in the movie, it does not follow that Forest Laboratories pays zip to Uncle Sam.
Business critics might argue that the use of offshore tax havens ought to be illegal, and that the sharp decline of corporate income tax payments in the era of globalization is an outrage that should be reversed. This line of thinking is intuitively appealing. If the headline corporate income tax rate is 35 percent, it feels wrong that the effective corporate income tax rate is often nearer to 0 percent. In other words, the fact that fifty countries now promote themselves as tax havens does not oblige us to conclude that tax havens are virtuous. And yet, in the wake of the financial crisis, we need to be careful about lamenting the decline of corporate income tax payments. There is at least an argument that this decline is good.
Economists have long complained that the corporate income tax goads companies to load up on too much debt. A company that needs to raise $100 million to build a factory will prefer to issue debt rather than equity, because interest payments on the debt can be paid from pretax profits, whereas dividends on the equity must be paid after settling up with the tax man. For a long time, the double taxation of profits—once at the level of the company, a second time at the level of the shareholder who pays taxes on his dividend—seemed like an obscure problem that only bean counters could care about. But in the years since the financial crisis distortions that encourage leverage seem seriously dangerous.
The documentary is also misguided to insist on a levy that globalization has rendered unenforceable. The better policy may be to target taxes at individuals living in America rather than at corporations whose lawyers can stratigically manipulate their whereabouts. Abolishing the corporate income tax and increasing the taxes on dividends might be a smarter way of raising needed revenue for the government. Leveling the tax playing field between dividends and interest payments should end the perverse subsidy for destabilizing leverage. Neither of these policies would increase inequality, starve government programs, or otherwise harm ordinary Americans. Rather, by reducing loopholes and leverage, they would make the system fairer and less prone to periodic crises.
We’re Not Broke demonstrates that having a corporate income tax while failing to collect it is like throwing red meat to demagogues. It does not demonstrate that cuts in schools and social services can best be averted by cracking down on tax havens. The United States needs tax reform, and that reform should take account of the alarming rise in inequality. A diatribe against business is largely a distraction from the debate we ought to have.